<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
Form 10-Q
[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934, for the quarter ended June 30, 1998
or
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
Commission File Number 1-11913
Aetna Inc.
(Exact name of registrant as specified in its charter)
Connecticut 02-0488491
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
151 Farmington Avenue
Hartford, Connecticut 06156
(Address of principal executive offices) (ZIP Code)
(860) 273-0123
(Registrant's telephone number, including area code)
Not Applicable
(Former name, former address and former fiscal year, if changed since last
report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Common Capital Stock (par value $.01) 144,368,565
- ------------------------------------- -----------------------------------
(Class) Shares Outstanding at June 30, 1998
<PAGE> 2
TABLE OF CONTENTS
Page
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
Consolidated Statements of Income 3
Consolidated Balance Sheets 4
Consolidated Statements of Shareholders' Equity 5
Consolidated Statements of Cash Flows 6
Condensed Notes to Financial Statements 7
Independent Auditors' Review Report 20
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations. 21
Item 3. Quantitative and Qualitative Disclosures About
Market Risk. 41
PART II. OTHER INFORMATION
Item 1. Legal Proceedings. 41
Item 4. Submission of Matters to a Vote of Security Holders. 42
Item 5. Other Information. 42
Item 6. Exhibits and Reports on Form 8-K. 44
Signatures 45
Exhibit Index 46
<PAGE> 3
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
AETNA INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
----------------------- -----------------------
(Millions, except per common share data) 1998 1997 1998 1997
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Revenue:
Premiums $ 3,279.1 $ 3,178.1 $ 6,517.7 $ 6,265.5
Net investment income 822.8 847.1 1,635.5 1,687.2
Fees and other income 553.6 568.4 1,104.1 1,126.1
Net realized capital gains 172.6 34.7 204.3 36.2
--------- --------- --------- ---------
Total revenue 4,828.1 4,628.3 9,461.6 9,115.0
--------- --------- --------- ---------
Benefits and expenses:
Current and future benefits 3,270.7 3,208.6 6,541.3 6,365.7
Operating expenses 908.4 869.1 1,786.6 1,703.2
Interest expense 56.5 60.8 113.4 116.8
Amortization of goodwill and other acquired
intangible assets 96.9 95.3 193.1 188.0
Amortization of deferred policy acquisition
costs 62.8 55.4 115.2 100.8
Reduction of loss on discontinued products -- -- -- (172.5)
Reductions of severance and facilities reserve -- (31.0) -- (45.0)
--------- --------- --------- ---------
Total benefits and expenses 4,395.3 4,258.2 8,749.6 8,257.0
--------- --------- --------- ---------
Income before income taxes 432.8 370.1 712.0 858.0
Income taxes (benefits):
Current 174.5 115.7 306.0 239.6
Deferred (7.4) 24.3 (27.2) 109.0
--------- --------- --------- ---------
Total income taxes 167.1 140.0 278.8 348.6
--------- --------- --------- ---------
Net income $ 265.7 $ 230.1 $ 433.2 $ 509.4
========= ========= ========= =========
Net income applicable to common ownership $ 251.8 $ 216.2 $ 405.4 $ 481.6
========= ========= ========= =========
Results per common share:
Basic $ 1.74 $ 1.44 $ 2.79 $ 3.21
Diluted 1.69 1.43 2.75 3.15
Dividends declared $ .20 $ .20 $ .40 $ .40
--------- --------- --------- ---------
</TABLE>
See Condensed Notes to Financial Statements.
<PAGE> 4
AETNA INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
June 30, December 31,
(Millions, except share and per common share data) 1998 1997
----------- -----------
<S> <C> <C>
Assets:
Investments:
Debt securities available for sale, at fair value
(amortized cost $32,233.8 and $32,694.0) $ 33,950.5 $ 34,245.0
Equity securities, at fair value (cost $789.9 and $824.4) 891.9 1,041.4
Short-term investments 739.7 1,003.9
Mortgage loans 3,702.3 4,207.8
Real estate 291.3 369.5
Policy loans 777.0 746.9
Other 1,049.9 947.4
----------- -----------
Total investments 41,402.6 42,561.9
----------- -----------
Cash and cash equivalents 2,031.4 1,805.8
Short-term investments under securities loan agreement 1,496.3 --
Accrued investment income 534.7 545.8
Premiums due and other receivables 1,763.0 1,381.0
Deferred policy acquisition costs 2,451.3 2,367.3
Goodwill and other acquired intangible assets 8,306.4 8,506.3
Other assets 879.5 875.1
Separate Accounts assets 43,122.2 37,957.4
----------- -----------
Total assets $ 101,987.4 $ 96,000.6
=========== ===========
Liabilities:
Future policy benefits $ 18,282.5 $ 17,837.1
Unpaid claims 3,353.7 3,294.4
Unearned premiums 181.8 359.2
Policyholders' funds left with the Company 17,960.9 18,761.2
----------- -----------
Total insurance liabilities 39,778.9 40,251.9
Dividends payable to shareholders 35.8 36.1
Short-term debt 227.1 252.1
Long-term debt 2,204.6 2,346.2
Payables under securities loan agreement 1,496.3 --
Current income taxes 243.4 320.5
Deferred income taxes 161.7 223.3
Other liabilities 2,875.0 2,931.9
Minority and participating policyholders' interests 230.9 237.7
Separate Accounts liabilities 43,098.2 37,930.5
----------- -----------
Total Liabilities 90,351.9 84,530.2
----------- -----------
Aetna-obligated mandatorily redeemable
preferred securities of subsidiary
limited liability company holding
primarily debentures guaranteed by Aetna 275.0 275.0
----------- -----------
Commitments and Contingent Liabilities (Notes 5 and 12)
Shareholders' Equity:
Class C voting mandatorily convertible
preferred stock ($.01 par value; 15,000,000
shares authorized; 11,614,995 in 1998 and
11,655,206 in 1997 issued and outstanding) 862.1 865.4
Common stock ($.01 par value; 500,000,000
shares authorized; 144,368,565 in 1998 and
145,794,844 in 1997 issued and outstanding) 3,523.4 3,644.4
Accumulated other comprehensive income 248.8 307.1
Retained earnings 6,726.2 6,378.5
----------- -----------
Total shareholders' equity 11,360.5 11,195.4
----------- -----------
Total liabilities, redeemable preferred securities and
shareholders' equity $ 101,987.4 $ 96,000.6
=========== ===========
Shareholders' equity per common share $ 72.72 $ 70.85
=========== ===========
</TABLE>
See Condensed Notes to Financial Statements.
<PAGE> 5
AETNA INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
Accumulated Other
Comprehensive Income
------------------------
Class C Voting
Mandatorily Unrealized Foreign
Six Months Ended June 30, 1998 Convertible Common Gains(Losses) Currency Retained
(Millions, except share data) Total Preferred Stock Stock on Securities Items Earnings
---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
Balances at December 31, 1997 $ 11,195.4 $ 865.4 $ 3,644.4 $ 504.1 $ (197.0) $ 6,378.5
Comprehensive income:
Net income 433.2 433.2
Other comprehensive loss, net
of tax:
Unrealized losses on securities ($(52.6)
pretax) (1) (34.2) (34.2)
Foreign currency ($(37.0) pretax) (24.1) (24.1)
----------
Other comprehensive loss (58.3)
----------
Total comprehensive income 374.9
==========
Common stock issued for benefit
plans (432,469 shares) 26.2 26.2
Repurchase of common shares
(1,891,700 shares) (150.5) (150.5)
Conversion of preferred securities
(32,952 shares) -- (3.3) 3.3
Common stock dividends (57.7) (57.7)
Preferred stock dividends (27.8) (27.8)
---------- ---------- ---------- ---------- ---------- ----------
Balances at June 30, 1998 $ 11,360.5 $ 862.1 $ 3,523.4 $ 469.9 $ (221.1) $ 6,726.2
========== ========== ========== ========== ========== ==========
<CAPTION>
Six Months Ended June 30, 1997
(Millions, except share data)
<S> <C> <C> <C> <C> <C> <C>
Balances at December 31, 1996 $ 10,889.7 $ 865.4 $ 4,032.8 $ 454.2 $ (114.2) $ 5,651.5
Comprehensive income:
Net income 509.4 509.4
Other comprehensive income, net
of tax:
Unrealized gains on securities ($22.8
pretax) (1) 14.8 14.8
Foreign currency ($(3.4) pretax) (2.2) (2.2)
----------
Other comprehensive income 12.6
----------
Total comprehensive income 522.0
==========
Common stock issued for benefit
plans (1,670,891 shares) 118.3 118.3
Repurchase of common shares
(1,804,000 shares) (153.9) (153.9)
Common stock dividends (59.8) (59.8)
Preferred stock dividends (27.8) (27.8)
---------- ---------- ---------- ---------- ---------- ----------
Balances at June 30, 1997 $ 11,288.5 $ 865.4 $ 3,997.2 $ 469.0 $ (116.4) $ 6,073.3
========== ========== ========== ========== ========== ==========
</TABLE>
(1) Net of reclassification adjustments.
See Condensed Notes to Financial Statements.
<PAGE> 6
AETNA INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Six Months Ended
June 30,
-----------------------
(Millions) 1998 1997
--------- ---------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 433.2 $ 509.4
Adjustments to reconcile net income to net cash used for
operating activities:
Decrease in accrued investment income 9.9 46.1
Increase in premiums due and other receivables (162.6) (135.4)
Increase in deferred policy acquisition costs (135.0) (149.7)
Depreciation and amortization 312.3 266.0
(Decrease) Increase in income taxes (162.7) 80.9
Net increase in other assets and other liabilities (90.8) (386.4)
(Decrease) Increase in insurance liabilities (including
run-off liabilities funded by investing
activities below) (6.7) 157.2
Net realized capital gains (204.3) (36.2)
Amortization of net investment discounts (67.2) (78.5)
Other, net (17.4) 10.7
--------- ---------
Net cash (used for) provided by operating activities (91.3) 284.1
--------- ---------
Cash flows from investing activities:
Proceeds from sales of:
Debt securities available for sale 10,093.3 8,088.7
Equity securities 480.2 344.1
Mortgage loans 59.5 116.8
Real estate 125.0 261.4
Other investments 220.4 356.5
Short-term investments 10,886.8 8,379.9
Investment maturities and repayments of:
Debt securities available for sale 2,202.1 2,036.5
Mortgage loans 569.0 392.9
Cost of investments in:
Debt securities available for sale (11,457.4) (9,453.4)
Equity securities (291.7) (301.0)
Mortgage loans (110.9) (177.4)
Real estate (20.2) (34.5)
Other investments (470.6) (827.6)
Short-term investments (10,705.8) (8,580.2)
Increase in property and equipment (82.7) (31.3)
Net decrease in Separate Accounts 2.8 23.1
Other, net 84.0 51.3
--------- ---------
Net cash provided by investing activities 1,583.8 645.8
--------- ---------
Cash flows from financing activities:
Deposits and interest credited for investment contracts 869.6 952.4
Withdrawals of investment contracts (1,758.2) (1,759.0)
Issuance of long-term debt -- .1
Repayment of long-term debt (140.8) (3.8)
Net (decrease) increase in short-term debt (21.3) 158.4
Common stock issued under benefit plans 26.2 118.3
Common stock acquired (150.5) (153.9)
Dividends paid to shareholders (85.8) (87.6)
--------- ---------
Net cash used for financing activities (1,260.8) (775.1)
--------- ---------
Effect of exchange rate changes on cash and cash equivalents (6.1) (.8)
--------- ---------
Net increase in cash and cash equivalents 225.6 154.0
Cash and cash equivalents, beginning of period 1,805.8 1,462.6
--------- ---------
Cash and cash equivalents, end of period $ 2,031.4 $ 1,616.6
========= =========
Supplemental cash flow information:
Interest paid $ 99.6 $ 114.2
Income taxes paid 392.6 272.8
--------- ---------
</TABLE>
See Condensed Notes to Financial Statements.
<PAGE> 7
AETNA INC. AND SUBSIDIARIES
CONDENSED NOTES TO FINANCIAL STATEMENTS
(1) Summary of Significant Accounting Policies
Basis of Presentation
The consolidated financial statements include Aetna Inc. and its majority-owned
subsidiaries (collectively, the "Company"), including Aetna Services, Inc.
("Aetna Services") and Aetna U.S. Healthcare Inc. ("Aetna U.S. Healthcare").
Less than majority-owned entities in which the Company has at least a 20%
interest are reported on the equity basis. These consolidated financial
statements have been prepared in accordance with generally accepted accounting
principles and are unaudited. Certain reclassifications have been made to 1997
financial information to conform to the 1998 presentation. These interim
statements necessarily rely heavily on estimates, including assumptions as to
annualized tax rates. In the opinion of management, all adjustments necessary
for a fair statement of results for the interim periods have been made. All such
adjustments are of a normal, recurring nature. The accompanying condensed
consolidated financial statements should be read in conjunction with the
consolidated financial statements and related notes as presented in the
Company's 1997 Annual Report on Form 10-K. Certain financial information that is
normally included in annual financial statements prepared in accordance with
generally accepted accounting principles, but that is not required for interim
reporting purposes, has been condensed or omitted.
(2) New Accounting Standards
On January 1, 1998, the Company adopted Statement of Position ("SOP") 98-1,
Accounting for the Costs of Computer Software Developed or Obtained for Internal
Use, issued by the American Institute of Certified Public Accountants ("AICPA").
This statement requires that certain costs incurred in developing internal-use
computer software be capitalized, and provides guidance for determining whether
computer software is considered to be for internal use. The Company will
amortize these costs over a period of 3 to 5 years. Previously, the Company
expensed the cost of internal-use computer software as incurred. The adoption of
this statement resulted in an after-tax increase to the results of operations of
$9.2 million and $17.7 million, or $.06 and $.12 per diluted common share for
the three and six months ended June 30, 1998, respectively.
Financial Accounting Standard ("FAS") No. 125, Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities, was issued in
June 1996 and provides accounting and reporting standards for transfers of
financial assets and extinguishments of liabilities.
<PAGE> 8
AETNA INC. AND SUBSIDIARIES
CONDENSED NOTES TO FINANCIAL STATEMENTS
(Continued)
(2) New Accounting Standards (continued)
FAS No. 125 was effective for 1997 financial statements; however, certain
provisions relating to accounting for repurchase agreements and securities
lending were not effective until January 1, 1998. The adoption of those
provisions effective in 1998 did not have a material effect on the Company's
financial position or results of operations.
(3) Future Application of Accounting Standards
In June 1998, the Financial Accounting Standards Board issued FAS No. 133,
Accounting for Derivative Instruments and Hedging Activities. This standard
requires companies to record all derivatives on the balance sheet as either
assets or liabilities and measure those instruments at fair value. The manner in
which companies are to record gains or losses resulting from changes in the
values of those derivatives depends on the use of the derivative and whether it
qualifies for hedge accounting. This standard is effective for the Company's
financial statements at the beginning of 2000, with early adoption permitted.
The Company is currently evaluating the impact of the adoption of this statement
and the potential effect on its financial position and results of operations.
In December 1997, the AICPA issued SOP 97-3, Accounting by Insurance and Other
Enterprises for Insurance-Related Assessments, which provides guidance for
determining when an insurance or other enterprise should recognize a liability
for guaranty-fund and other insurance-related assessments and guidance for
measuring the liability. This statement is effective for 1999 financial
statements, with early adoption permitted. The Company does not expect adoption
of this statement to have a material effect on its financial position or results
of operations.
<PAGE> 9
AETNA INC. AND SUBSIDIARIES
CONDENSED NOTES TO FINANCIAL STATEMENTS
(Continued)
(4) Earnings Per Common Share
A reconciliation of the numerator and denominator of the basic and diluted
earnings per common share ("EPS") for the three and six months ended June 30,
was as follows:
<TABLE>
<CAPTION>
Three Months Ended June 30, Income Shares Per Common
(Millions, except per common share data) (Numerator) (Denominator) Share Amount
-------- -------- --------
<S> <C> <C> <C>
1998
Net income $ 265.7
Less: preferred stock dividends 13.9
Basic EPS --------
Income applicable to common ownership 251.8 145.1 $ 1.74
========
Effect of dilutive securities:
Stock options and other (1) 1.2
Convertible preferred stock 13.9 11.1
-------- --------
Diluted EPS
Income applicable to common ownership and assumed conversions $ 265.7 157.4 $ 1.69
======== ======== ========
1997 (2)
Net income $ 230.1
Less: preferred stock dividends 13.9
Basic EPS --------
Income applicable to common ownership 216.2 149.9 $ 1.44
======== ========
Effect of dilutive securities:
Stock options and other (1) 1.7
--------
Diluted EPS
Income applicable to common ownership and assumed conversions $ 216.2 151.6 $ 1.43
======== ======== ========
<CAPTION>
Six Months Ended June 30, Income Shares Per Common
(Millions, except per common share data) (Numerator) (Denominator) Share Amount
-------- -------- --------
<S> <C> <C> <C>
1998
Net income $ 433.2
Less: preferred stock dividends 27.8
Basic EPS --------
Income applicable to common ownership 405.4 145.3 $ 2.79
========
Effect of dilutive securities:
Stock options and other (3) 1.2
Convertible preferred stock 27.8 11.2
-------- --------
Diluted EPS
Income applicable to common ownership and assumed conversions $ 433.2 157.7 $ 2.75
======== ======== ========
1997
Net income $ 509.4
Less: preferred stock dividends 27.8
Basic EPS --------
Income applicable to common ownership 481.6 149.9 $ 3.21
========
Effect of dilutive securities:
Stock options and other (3) 1.6
Convertible preferred stock 27.8 10.0
-------- --------
Diluted EPS
Income applicable to common ownership and assumed conversions $ 509.4 161.5 $ 3.15
======== ======== ========
</TABLE>
(1) Options to purchase shares of common stock for the three months ended June
30, 1998 and 1997 of 3,595,910 and 24,500, respectively, (with exercise
prices ranging from $80.25 - $112.63) were not included in the calculation
of diluted earnings per common share because the options' exercise price was
greater than the average market price of common shares.
(2) The issuable common stock related to Class C voting mandatorily convertible
preferred stock (9,553,978 weighted average shares) was not included in the
computation of diluted earnings per common share for the three months ended
June 30, 1997 because to do so would be antidilutive.
(3) Options to purchase shares of common stock for the six months ended June 30,
1998 and 1997 of 2,560,709 and 24,500, respectively, (with exercise prices
ranging from $80.25 - $112.63) were not included in the calculation of
diluted earnings per common share because the options' exercise price was
greater than the average market price of common shares.
<PAGE> 10
AETNA INC. AND SUBSIDIARIES
CONDENSED NOTES TO FINANCIAL STATEMENTS
(Continued)
(5) Acquisitions and Dispositions
On July 15, 1998, the Company acquired New York Life Insurance Company's NYLCare
health business for $1.05 billion in cash. In addition to the cash purchase
price, payments totaling up to $300 million (up to $150 million in each of two
years) may be made to the extent that pre-determined earnings and membership
targets are achieved. No such payments, if any, are payable prior to the year
2000.
On May 21, 1998, the Company agreed to sell its domestic individual life
insurance business to Lincoln National Corporation ("Lincoln") for $1 billion in
cash. The transaction is generally in the form of an indemnity reinsurance
arrangement, under which Lincoln will contractually assume from the Company
certain policyholder liabilities and obligations, although the Company will
remain directly obligated to policyholders. Assets related to and supporting the
life policies will be transferred to Lincoln and the Company will record a
reinsurance receivable from Lincoln. The transaction is expected to result in an
after-tax gain on the sale of approximately $200 million, of which a significant
portion will be deferred and amortized over approximately 15 years. The amount
of the gain will depend on the actual amount of assets transferred and
liabilities contractually assumed from the Company at the closing date.
Completion of the sale, which is anticipated to occur in the fall of 1998, is
subject to state regulatory approvals and other customary conditions. In July
1998, the Federal Trade Commission granted early termination to the waiting
period for the transaction under the Hart-Scott-Rodino Antitrust Improvements
Act.
Revenues for these business lines were $129 million and $264 million for the
three and six months ended June 30, 1998, respectively, and $136 million and
$268 million for the three and six months ended June 30, 1997, respectively. Net
income, excluding Year 2000 costs in 1998 and net realized capital gains in all
periods, was $24 million and $47 million for the three and six months ended June
30, 1998, respectively, and $17 million and $33 million for the three and six
months ended June 30, 1997, respectively.
(6) Investments
Net investment income includes amounts allocable to experience rated
contractholders of $306 million and $334 million for the three months ended June
30, 1998 and 1997, respectively, and $621 million and $673 million for the six
months ended June 30, 1998 and 1997, respectively. Interest credited to
contractholders is included in current and future benefits.
<PAGE> 11
AETNA INC. AND SUBSIDIARIES
CONDENSED NOTES TO FINANCIAL STATEMENTS
(Continued)
(6) Investments (continued)
Net realized capital gains allocable to experience rated contractholders of $64
million and $18 million for the three months ended June 30, 1998 and 1997,
respectively, and $72 million and $49 million for the six months ended June 30,
1998 and 1997, respectively, were deducted from net realized capital gains as
reflected on the Consolidated Statements of Income, and an offsetting amount is
reflected on the Consolidated Balance Sheets in policyholders' funds left with
the Company.
The total recorded investment in mortgage loans that are considered to be
impaired (including problem loans, restructured loans and potential problem
loans) and related specific reserves are presented in the table below.
<TABLE>
<CAPTION>
June 30, 1998 December 31, 1997
---------------------- ----------------------
Total Total
Recorded Specific Recorded Specific
(Millions) Investment Reserves Investment Reserves
------ ------ ------ ------
<S> <C> <C> <C> <C>
Supporting discontinued products $167.0 $ 23.4 $206.5 $ 25.8
Supporting experience rated products 108.5 16.8 110.8 16.7
Supporting remaining products 55.6 7.3 65.6 8.7
------ ------ ------ ------
Total impaired loans $331.1(1) $ 47.5 $382.9(1) $ 51.2
====== ====== ====== ======
</TABLE>
(1) Includes impaired loans of $94.7 million and $127.7 million at June 30, 1998
and December 31, 1997, respectively, for which no specific reserves are
considered necessary.
The activity in the specific and general reserves for the six months ended June
30, 1998 and 1997 is summarized below:
<TABLE>
<CAPTION>
Supporting
Supporting Experience Supporting
Discontinued Rated Remaining
(Millions) Products Products Products Total
------ ------ ------ ------
<S> <C> <C> <C> <C>
Balance at December 31, 1997 $ 68.7 $ 31.6 $ 14.2 $114.5
Credited to net realized losses -- -- (2.0) (2.0)
Charged (credited) to other accounts (30.0)(1) (2.0)(1) 5.3 (26.7)
Principal write-offs (.4) (2.0) (.6) (3.0)
------ ------ ------ ------
Balance at June 30, 1998(2) $ 38.3 $ 27.6 $ 16.9 $ 82.8
====== ====== ====== ======
Balance at December 31, 1996 $136.7 $ 74.7 $ 35.6 $247.0
Charged to net realized capital gains -- -- .7 .7
Credited to other accounts -- -- (.7) (.7)
Principal write-offs (4.0) 1.3 (4.5) (7.2)
------ ------ ------ ------
Balance at June 30, 1997(2) $132.7 $ 76.0 $ 31.1 $239.8
====== ====== ====== ======
</TABLE>
(1) Reflects adjustments to reserves related to assets supporting discontinued
products and experience rated products which do not affect the Company's
results of operations.
(2) Total reserves at June 30, 1998 and 1997 include $47.5 million and $126.8
million of specific reserves, respectively, and $35.3 million and $113.0
million of general reserves, respectively.
<PAGE> 12
AETNA INC. AND SUBSIDIARIES
CONDENSED NOTES TO FINANCIAL STATEMENTS
(Continued)
(6) Investments (continued)
Income earned (pretax) and cash received on the average recorded investment in
impaired loans was as follows:
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, 1998 June 30, 1998
------------------------------ -------------------------------
Average Average
Impaired Income Cash Impaired Income Cash
(Millions) Loans Earned Received Loans Earned Received
------ ------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C> <C>
Supporting discontinued products $167.0 $ 3.3 $ 3.3 $180.2 $ 6.5 $ 6.8
Supporting experience rated products 107.7 1.6 1.7 108.7 4.1 4.1
Supporting remaining products 51.4 .8 .6 56.6 1.7 1.6
------ ------ ------ ------ ------ ------
Total $326.1 $ 5.7 $ 5.6 $345.5 $ 12.3 $ 12.5
------ ------ ------ ------ ------ ------
<CAPTION>
Three Months Ended Six Months Ended
June 30, 1997 June 30, 1997
------------------------------ -------------------------------
Average Average
Impaired Income Cash Impaired Income Cash
(Millions) Loans Earned Received Loans Earned Received
------ ------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C> <C>
Supporting discontinued products $373.9 $ 8.9 $ 8.0 $377.4 $ 17.6 $ 15.9
Supporting experience rated products 215.8 4.2 3.9 227.1 8.4 7.7
Supporting remaining products 128.5 2.4 2.3 133.9 5.0 4.7
------ ------ ------ ------ ------ ------
Total $718.2 $ 15.5 $ 14.2 $738.4 $ 31.0 $ 28.3
------ ------ ------ ------ ------ ------
</TABLE>
(7) Supplemental Cash Flow Information
Significant noncash investing and financing activities include acquisition of
real estate through foreclosures (including in-substance foreclosures) of
mortgage loans amounting to $4 million and $25 million for the six months ended
June 30, 1998 and 1997, respectively.
(8) Additional Information - Accumulated Other Comprehensive Income
Changes in accumulated other comprehensive income (loss) related to changes in
unrealized gains (losses) on securities (excluding those related to experience
rated contractholders and discontinued products) were as follows:
<TABLE>
<CAPTION>
Six Months Ended
June 30,
-----------------
(Millions) 1998 1997
------ ------
<S> <C> <C>
Unrealized holding gains arising during the period (1) $167.4 $150.6
Less: reclassification adjustment for gains and other items
included in net income (2) 201.6 135.8
------ ------
Net unrealized gains (losses) on securities $(34.2) $ 14.8
------ ------
</TABLE>
(1) Pretax unrealized holding gains arising during the period were $257.6
million and $231.7 million for 1998 and 1997, respectively.
(2) Pretax reclassification adjustments for gains and other items included in
net income were $310.2 million and $208.9 million for 1998 and 1997,
respectively.
<PAGE> 13
AETNA INC. AND SUBSIDIARIES
CONDENSED NOTES TO FINANCIAL STATEMENTS
(Continued)
(9) Severance and Facilities Charges
In 1996, the Company established severance and facilities reserves in connection
with the integration of the health businesses and certain other actions taken or
to be taken in order to make its businesses more competitive.
Activity for the six months ended June 30, 1998 within the severance and
facilities reserves (pretax) and positions eliminated related to such actions
were as follows:
<TABLE>
<CAPTION>
(Millions, except positions) Reserve Positions
------ ------
<S> <C> <C>
Balance at December 31, 1997 $405.4 2,950
Actions taken (1) (55.8) (509)
------ ------
Balance at June 30, 1998 $349.6 2,441
====== ======
</TABLE>
(1) Includes $29.8 million of severance related actions. Other actions include
asset write offs, vacated leased property payments and other exit costs.
The 509 positions eliminated during the six months ended June 30, 1998 related
to the following segments: 83.1% - Aetna U.S. Healthcare, 12.4% - Aetna
Retirement Services and 4.5% - Corporate. The Aetna U.S. Healthcare severance
actions are now expected to be substantially completed by March 31, 1999 as a
result of addressing customer service issues during the transition period. The
Aetna Retirement Services severance actions are expected to be substantially
completed by September 30, 1998. The severance actions and vacating of certain
leased office space related to the Corporate segment were substantially
completed in 1997. In connection with the sale of the Company's
property-casualty operations in 1996, the Company vacated, and the purchaser
subleased, at market rates for a period of eight years, the space that the
Company occupied in the CityPlace office facility in Hartford. The remaining
lease payments (net of expected subrentals) on the facilities (other than the
CityPlace office facility) are payable over approximately the next two years.
<PAGE> 14
AETNA INC. AND SUBSIDIARIES
CONDENSED NOTES TO FINANCIAL STATEMENTS
(Continued)
(10) Discontinued Products
The Company discontinued the sale of its fully guaranteed large case pension
products (single-premium annuities ("SPAs") and guaranteed investment contracts
("GICs")) in 1993. Under the Company's accounting for these discontinued
products, a reserve for anticipated future losses from these products was
established and the reserve is reviewed by management quarterly. As long as the
reserve continues to represent management's then best estimate of expected
future losses, results of operations of the discontinued products, including net
realized capital gains and losses, are credited/charged to the reserve and do
not affect the Company's results of operations. As a result of continued
favorable developments in real estate markets, in the first quarter of 1997 the
Company released $173 million (pretax) of the reserve related to GICs. The
current reserve reflects management's best estimate of anticipated future
losses. To the extent that aggregate future losses on discontinued products are
greater or less than anticipated, the Company's results of operations would be
adversely or positively affected, respectively. The discussion below presents
information for the discontinued SPAs and GICs on a combined basis. (Refer to
the Company's 1997 Annual Report for a more complete discussion of the reserve
for anticipated future losses on discontinued products.)
At the time of discontinuance, a receivable from Large Case Pensions' continuing
products equivalent to the net present value of the anticipated cash flow
shortfalls was established for the discontinued products. Interest on the
receivable is accrued at the discount rate which was used to calculate the loss
on discontinuance. The offsetting payable, on which interest is similarly
accrued, is reflected in continuing products. Interest on the payable generally
offsets the investment income on the assets available to fund the shortfall. At
June 30, 1998, the receivable from continuing products, net of related deferred
taxes payable of $49 million on the accrued interest income, was $526 million.
During the six months ended June 30, 1998, and the twelve months ended December
31, 1997, no funding of the receivable took place. The receivable is eliminated
in consolidation.
<PAGE> 15
AETNA INC. AND SUBSIDIARIES
CONDENSED NOTES TO FINANCIAL STATEMENTS
(Continued)
(10) Discontinued Products (continued)
Results of discontinued products were as follows (pretax, in millions):
<TABLE>
<CAPTION>
Charged (Credited)
to Reserve for
Three Months Ended June 30, 1998 Results Future Losses Net(1)
------ ------ ------
<S> <C> <C> <C>
Net investment income $134.9 $ -- $134.9
Net realized capital gains 9.9 (9.9) --
Interest earned on receivable from
continuing products 8.7 -- 8.7
Other income 10.5 -- 10.5
------ ------ ------
Total revenue 164.0 (9.9) 154.1
------ ------ ------
Current and future benefits 143.0 6.9 149.9
Operating expenses 4.2 -- 4.2
------ ------ ------
Total benefits and expenses 147.2 6.9 154.1
------ ------ ------
Results of discontinued products $ 16.8 $(16.8) $ --
====== ====== ======
<CAPTION>
Charged (Credited)
to Reserve for
Three Months Ended June 30, 1997 Results Future Losses Net(1)
------ ------ ------
<S> <C> <C> <C>
Net investment income $174.6 $ -- $174.6
Net realized capital gains 63.8 (63.8) --
Interest earned on receivable from
continuing products 8.3 -- 8.3
Other income 2.6 -- 2.6
------ ------ ------
Total revenue 249.3 (63.8) 185.5
------ ------ ------
Current and future benefits 165.6 17.0 182.6
Operating expenses 2.9 -- 2.9
------ ------ ------
Total benefits and expenses 168.5 17.0 185.5
------ ------ ------
Results of discontinued products $ 80.8 $(80.8) $ --
====== ====== ======
</TABLE>
(1) Amounts are reflected in the June 30, 1998 and 1997 Consolidated Statements
of Income, except for interest earned on the receivable from continuing
products which is eliminated in consolidation.
<PAGE> 16
AETNA INC. AND SUBSIDIARIES
CONDENSED NOTES TO FINANCIAL STATEMENTS
(Continued)
(10) Discontinued Products (continued)
<TABLE>
<CAPTION>
Charged (Credited)
to Reserve for
Six Months Ended June 30, 1998 Results Future Losses Net(1)
------ ------ ------
<S> <C> <C> <C>
Net investment income $272.6 $ -- $272.6
Net realized capital gains 75.0 (75.0) --
Interest earned on receivable from
continuing products 17.3 -- 17.3
Other income 16.4 -- 16.4
------ ------ ------
Total revenue 381.3 (75.0) 306.3
------ ------ ------
Current and future benefits 290.5 8.5 299.0
Operating expenses 7.3 -- 7.3
------ ------ ------
Total benefits and expenses 297.8 8.5 306.3
------ ------ ------
Results of discontinued products $ 83.5 $(83.5) $ --
====== ====== ======
<CAPTION>
Charged (Credited)
to Reserve for
Six Months Ended June 30, 1997 Results Future Losses Net(1)
------ ------ ------
<S> <C> <C> <C>
Net investment income $353.2 $ -- $353.2
Net realized capital gains 94.3 (94.3) --
Interest earned on receivable from
continuing products 16.6 -- 16.6
Other income 10.0 -- 10.0
------ ------- ------
Total revenue 474.1 (94.3) 379.8
------ ------- ------
Current and future benefits 335.1 38.9 374.0
Operating expenses 5.8 -- 5.8
------ ------- ------
Total benefits and expenses 340.9 38.9 379.8
------ ------- ------
Results of discontinued products $133.2 $(133.2) $ --
====== ======= ======
</TABLE>
(1) Amounts are reflected in the June 30, 1998 and 1997 Consolidated Statements
of Income, except for interest earned on the receivable from continuing
products which is eliminated in consolidation.
Assets and liabilities of discontinued products at June 30, 1998
were as follows (1):
<TABLE>
<CAPTION>
(Millions)
<S> <C>
Debt securities available for sale $6,235.6
Mortgage loans 835.8
Real estate 112.1
Short-term and other investments 480.8
--------
Total investments 7,664.3
Current and deferred income taxes 217.5
Receivable from continuing products (2) 575.1
--------
Total assets $8,456.9
========
Future policy benefits $4,695.2
Policyholders' funds left with the Company 1,797.5
Reserve for anticipated future losses on discontinued products 1,235.2
Other 729.0
--------
Total liabilities $8,456.9
========
</TABLE>
(1) Assets supporting the discontinued products are distinguished from other
continuing operations assets.
(2) The receivable from continuing products is eliminated in consolidation.
<PAGE> 17
AETNA INC. AND SUBSIDIARIES
CONDENSED NOTES TO FINANCIAL STATEMENTS
(Continued)
(10) Discontinued Products (continued)
Net unrealized capital gains on available for sale debt securities are included
above in other liabilities and are not reflected in consolidated shareholders'
equity. The reserve for anticipated future losses is included in future policy
benefits on the Consolidated Balance Sheets.
The activity in the reserve for anticipated future losses on discontinued
products for the six months ended June 30, 1998 was as follows (pretax):
<TABLE>
<CAPTION>
(Millions)
<S> <C>
Reserve at December 31, 1997 $1,151.7
Results of discontinued products 83.5
========
Reserve at June 30, 1998 $1,235.2
========
</TABLE>
(11) Debt and Guarantee of Debt Securities
Aetna Inc. has fully and unconditionally guaranteed the payment of all
principal, premium, if any, and interest on all outstanding debt securities of
Aetna Services, including the $348 million 9.5% Subordinated Debentures due 2024
(the "Subordinated Debentures") issued to Aetna Capital L.L.C. ("ACLLC"), a
wholly owned subsidiary of Aetna Services (collectively the "Aetna Services
Debt"). ACLLC has issued $275 million of redeemable preferred stock and the
Subordinated Debentures represent substantially all of the assets of ACLLC.
Aetna Services has a revolving credit facility in an aggregate amount of $1.5
billion with a worldwide group of banks and other financing entities that
terminates in June 2001. Various interest rate options are available under the
facility and any borrowings mature on the expiration date of the applicable
credit commitment. Aetna Services pays facility fees ranging from .065% to .20%
per annum, depending upon its long-term senior unsecured debt rating. The
facility fee at June 30, 1998 is at an annual rate of .08%. The facility also
supports Aetna Services' commercial paper borrowing program. As a guarantor of
any amounts outstanding under the credit facility, Aetna Inc. is required to
maintain shareholders' equity, excluding net unrealized capital gains and
losses, of at least $7.5 billion.
<PAGE> 18
AETNA INC. AND SUBSIDIARIES
CONDENSED NOTES TO FINANCIAL STATEMENTS
(Continued)
(11) Debt and Guarantee of Debt Securities (continued)
Consolidated financial statements of Aetna Services have not been presented
herein or in any separate reports filed with the Securities and Exchange
Commission because management has determined that such financial statements
would not be material to holders of the Aetna Services Debt. Summarized
consolidated financial information for Aetna Services is as follows (in
millions):
Balance Sheets Information:
<TABLE>
<CAPTION>
June 30, December 31,
1998 1997
--------- ---------
<S> <C> <C>
Total investments (excluding Separate Accounts) $39,926.1 $41,020.9
--------- ---------
Total assets $91,563.2 $85,138.9
--------- ---------
Total insurance liabilities $38,187.5 $38,620.0
--------- ---------
Total liabilities $88,113.2 $82,160.2
--------- ---------
Total redeemable preferred stock $ 275.0 $ 275.0
--------- ---------
Total shareholder's equity $ 3,175.0 $ 2,703.7
--------- ---------
</TABLE>
Statements of Income Information:
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, 1998 June 30, 1998
--------- ---------
<S> <C> <C>
Total revenue $ 2,647.0 $ 5,114.7
--------- ---------
Total benefits and expenses $ 2,249.3 $ 4,479.6
--------- ---------
Income before income taxes $ 397.8 $ 635.1
--------- ---------
Net income $ 263.2 $ 425.5
--------- ---------
</TABLE>
The amount of dividends which may be paid to Aetna Services or Aetna U.S.
Healthcare by their domestic insurance and HMO subsidiaries at June 30, 1998
without prior approval by state regulatory authorities is limited to
approximately $638 million in the aggregate. There are no such restrictions on
distributions from Aetna Services or Aetna U.S. Healthcare to Aetna Inc. or on
distributions from Aetna Inc. to its shareholders.
<PAGE> 19
AETNA INC. AND SUBSIDIARIES
CONDENSED NOTES TO FINANCIAL STATEMENTS
(Continued)
(12) Litigation
Purported Class Action Complaints were filed in the United States District Court
for the Eastern District of Pennsylvania on November 5, 1997 by Eileen
Herskowitz and Michael Wolin, and on December 4, 1997 by Pamela Goodman and
Michael J. Oring. Other purported Class Action Complaints were filed in the
United States District Court for the District of Connecticut on November 25,
1997 by Evelyn Silvert, on November 26, 1997 by the Rainbow Fund, Inc., and on
December 24, 1997 by Terry B. Cohen. The Connecticut actions have been
transferred to the United States District Court for the Eastern District of
Pennsylvania for consolidated pretrial proceedings with the cases pending there.
The plaintiffs have filed a Consolidated and Amended Complaint (the "Complaint")
seeking, among other remedies, unspecified damages resulting from defendants'
alleged violations of federal securities laws. The Complaint alleges that the
Company and three of its current or former officers or directors, Ronald E.
Compton, Richard L. Huber, and Leonard Abramson, are liable for certain
misrepresentations and omissions regarding, among other matters, the integration
of the merger with U.S. Healthcare and the Company's medical claim reserves. The
Company and the individual defendants filed a motion to dismiss the Complaint on
July 31, 1998. The litigation is still in the preliminary stages, and the
Company is defending the actions vigorously.
The Company is also involved in numerous other lawsuits arising, for the most
part, in the ordinary course of its business operations, including litigation in
its health business concerning benefit plan coverage and other decisions made by
the Company, and alleged medical malpractice by participating providers. While
the ultimate outcome of these other lawsuits cannot be determined at this time,
after consideration of the defenses available to the Company and any related
reserves established, they are not expected to result in liability for amounts
material to the financial condition of the Company, although they may adversely
affect results of operations in future periods.
<PAGE> 20
Independent Auditors' Review Report
The Board of Directors
Aetna Inc.:
We have reviewed the accompanying condensed consolidated balance sheet of Aetna
Inc. and Subsidiaries as of June 30, 1998, and the related condensed
consolidated statements of income for the three-month and six-month periods
ended June 30, 1998 and 1997, and the related condensed consolidated statements
of shareholders' equity and cash flows for the six-month periods ended June 30,
1998 and 1997. These condensed consolidated financial statements are the
responsibility of the Company's management.
We conducted our review in accordance with standards established by the American
Institute of Certified Public Accountants. A review of interim financial
information consists principally of applying analytical procedures to financial
data and making inquiries of persons responsible for financial and accounting
matters. It is substantially less in scope than an audit conducted in accordance
with generally accepted auditing standards, the objective of which is the
expression of an opinion regarding the financial statements taken as a whole.
Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the accompanying condensed consolidated financial statements for them
to be in conformity with generally accepted accounting principles.
We have previously audited, in accordance with generally accepted auditing
standards, the consolidated balance sheet of Aetna Inc. and Subsidiaries as of
December 31, 1997, and the related consolidated statements of income,
shareholders' equity, and cash flows for the year then ended (not presented
herein); and in our report dated February 3, 1998, we expressed an unqualified
opinion on those consolidated financial statements. In our opinion, the
information set forth in the accompanying condensed consolidated balance sheet
as of December 31, 1997, is fairly presented, in all material respects, in
relation to the consolidated balance sheet from which it has been derived.
/s/ KPMG Peat Marwick LLP
Hartford, Connecticut
August 4, 1998
<PAGE> 21
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion and analysis presents a review of Aetna Inc. and its
subsidiaries (collectively, the "Company") for the three and six months ended
June 30, 1998 and 1997. This review should be read in conjunction with the
consolidated financial statements and other data presented herein.
OVERVIEW
General
The Company's current operations include three core businesses - Aetna U.S.
Healthcare, Aetna Retirement Services and Aetna International. Aetna U.S.
Healthcare provides a full spectrum of managed care, indemnity, and group life
and disability insurance products. Aetna Retirement Services offers a range of
financial services and individual life insurance products. Aetna International,
through subsidiaries and joint venture operations, sells primarily life
insurance, health insurance and financial services products in non-U.S. markets.
The Company also has a Large Case Pensions business which manages a variety of
retirement products for defined benefit and defined contribution plans.
Consolidated Results
The Company reported net income of $266 million for the second quarter of 1998
compared to $230 million for the same period in 1997. Net income per diluted
common share for the three months ended June 30, 1998 was $1.69 compared with
$1.43 a year ago.
Net income for the second quarter of 1998 includes Year 2000 remediation costs
of $25 million. Results in the second quarter of 1997 included reductions in the
severance and facilities reserve for Aetna U.S. Healthcare of $20 million. Net
realized capital gains were $113 million for the three months ended June 30,
1998 and $24 million for the three months ended June 30, 1997. Excluding these
items, earnings were $178 million for the three months ended June 30, 1998
compared to $186 million for the same period in 1997.
Net income for the six months ended June 30, 1998 was $433 million compared to
$509 million for the same period in 1997 while per diluted common share amounts
for the six months ended June 30, 1998 were $2.75 compared with $3.15 a year
ago.
Year 2000 remediation costs were $41 million for the first six months of 1998.
Results for the first six months of 1997 included reductions in the severance
and facilities reserve for Aetna U.S. Healthcare of $29 million and also
included a benefit of $108 million related to a reserve reduction for Large Case
Pensions. Net realized capital gains were $134 million for the six months ended
June 30, 1998 and $8 million for the same period in 1997. Excluding these items,
earnings were $340 million for the first six months of 1998 compared to $363
million for the same period in 1997.
The Company adopted the American Institute of Certified Public Accountants'
Statement of Position 98-1, Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use, effective January 1, 1998, which
requires the capitalization and amortization of certain internal-use software.
Previously, the Company expensed these costs. As a result of this new standard,
earnings included a net benefit from capitalizing internal-use software of $9
million for the second quarter of 1998 and $18 million for the six months ended
June 30, 1998.
<PAGE> 22
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
OVERVIEW (CONTINUED)
Business Results
For the three and six months ended June 30, 1998, Aetna U.S. Healthcare's
earnings decreased from the same periods a year ago, primarily due to lower
Indemnity and PPO results and increased Medicare HMO medical costs. Aetna
Retirement Services' earnings increased for the three and six months ended June
30, 1998 primarily due to higher fee income earned on a growing base of
financial services assets under management and favorable individual life
results. Aetna International's earnings improved during the three and six months
ended June 30, 1998 primarily due to favorable results in Brazil, new pension
business in Mexico and continued business growth in Taiwan. Large Case Pensions'
results declined for the three and six months ended June 30, 1998 as capital was
redeployed to other businesses of the Company.
Acquisition of NYLCare Health Business
On July 15, 1998, the Company acquired New York Life Insurance Company's NYLCare
health business for $1.05 billion in cash. In addition to the cash purchase
price, payments totaling up to $300 million (up to $150 million in each of two
years) may be made to the extent that pre-determined earnings and membership
targets are achieved. No such payments, if any, are payable prior to the year
2000.
The Company completed the transaction using funds made available from the
issuance of commercial paper. The Company expects to ultimately finance the
transaction in part with medium- or long-term fixed income securities and also
with a portion of the proceeds to be received from the sale of its domestic
individual life insurance business, described below.
Subsequent to the closing, the Company's results will be affected by, among
other things, the operating results of the NYLCare health business, the costs of
financing the transaction and the amortization of intangible assets (primarily
goodwill) of approximately $960 million created as a result of the transaction.
See "Aetna U.S. Healthcare" for further discussion.
Sale of Domestic Individual Life Insurance Business
On May 21, 1998, the Company agreed to sell its domestic individual life
insurance business to Lincoln National Corporation ("Lincoln") for $1 billion in
cash. The transaction is generally in the form of an indemnity reinsurance
arrangement, under which Lincoln will contractually assume from the Company
certain policyholder liabilities and obligations, although the Company will
remain directly obligated to policyholders. Assets related to and supporting the
life policies will be transferred to Lincoln and the Company will record a
reinsurance receivable from Lincoln. The transaction is expected to result in an
after-tax gain on the sale of approximately $200 million, of which a significant
portion will be deferred and amortized over approximately 15 years. The amount
of the gain will depend on the actual amount of assets transferred and
liabilities contractually assumed from the Company at the closing date.
<PAGE> 23
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (Continued)
OVERVIEW (CONTINUED)
Sale of Domestic Individual Life Insurance Business (Continued)
Completion of the sale, which is anticipated to occur in the fall of 1998, is
subject to state regulatory approvals and other customary conditions. In July
1998, the Federal Trade Commission granted early termination to the waiting
period for the transaction under the Hart-Scott-Rodino Antitrust Improvements
Act.
Proceeds from the sale are expected to be used to finance a portion of the
purchase price of the NYLCare health business. The remaining proceeds are
expected to be used for general corporate purposes, including internal growth,
acquisitions and share repurchases. See "Aetna Retirement Services" for further
discussion.
<PAGE> 24
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (Continued)
AETNA U.S. HEALTHCARE
Operating Summary
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
---------------------------------- ----------------------------------
(Millions) 1998 1997 % Change 1998 1997 % Change
-------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
Premiums $2,847.0 $2,737.3 4.0% $5,686.0 $5,423.4 4.8%
Net investment income 131.6 109.2 20.5 253.3 212.8 19.0
Fees and other income 352.1 388.3 (9.3) 703.1 766.4 (8.3)
Net realized capital gains (losses) 33.2 (22.0) -- 44.2 (34.9) --
-------- -------- -------- -------- -------- --------
Total revenue 3,363.9 3,212.8 4.7 6,686.6 6,367.7 5.0
-------- -------- -------- -------- -------- --------
Current and future benefits 2,436.2 2,295.9 6.1 4,872.8 4,545.8 7.2
Operating expenses 633.3 609.0 4.0 1,243.9 1,200.4 3.6
Amortization of goodwill and other
acquired intangible assets 90.7 90.5 .2 181.4 180.9 .3
Amortization of deferred policy
acquisition costs .2 8.6 (97.7) .3 13.1 (97.7)
Reductions of severance and
facilities reserve -- (31.0) 100.0 -- (45.0) 100.0
-------- -------- -------- -------- -------- --------
Total benefits and expenses 3,160.4 2,973.0 6.3 6,298.4 5,895.2 6.8
-------- -------- -------- -------- -------- --------
Income before income taxes 203.5 239.8 (15.1) 388.2 472.5 (17.8)
Income taxes 93.0 100.6 (7.6) 178.9 219.1 (18.3)
-------- -------- -------- -------- -------- --------
Net income (1) $ 110.5 $ 139.2 (20.6) $ 209.3 $ 253.4 (17.4)
======== ======== ======== ======== ======== ========
Net realized capital gains (losses),
net of tax (included above) $ 21.5 $ (12.8) -- $ 28.6 $ (39.2) --
======== ======== ======== ======== ======== ========
</TABLE>
(1) Net income includes a net benefit from capitalizing internal-use software of
$4.2 million for the three months ended June 30, 1998 and $8.5 million for
the six months ended June 30, 1998.
Aetna U.S. Healthcare's net income decreased $29 million for the three months
ended June 30, 1998 and $44 million for the six months ended June 30, 1998,
compared to the same periods a year ago. These results include costs related to
Year 2000 remediation of $16 million (after tax) for the second quarter of 1998
and $24 million (after tax) for the six months ended June 30, 1998. Results also
include reductions in the severance and facilities reserve of $20 million (after
tax) for the three months ended June 30, 1997 and $29 million (after tax) for
the six months ended June 30, 1997. Excluding these items and net realized
capital gains or losses, results decreased $27 million for the second quarter of
1998 and $58 million for the six months ended June 30, 1998 when compared to the
same periods a year ago, reflecting lower Health Risk and Group Insurance and
Other Health earnings.
Net realized capital losses for the three months ended June 30, 1997 include
losses of $11 million (after tax) and for the six months ended June 30, 1997
losses of $44 million (after tax) related to the sale of Aetna Professional
Management Corporation ("APMC"), a physician practice management business. The
earnings of APMC were not material to the results of Aetna U.S. Healthcare.
<PAGE> 25
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations (Continued)
AETNA U.S. HEALTHCARE (CONTINUED)
Business Results
In order to provide a comparison that management believes better reflects the
underlying performance of Aetna U.S. Healthcare, the earnings discussion that
follows excludes amortization of goodwill and other acquired intangible assets,
Year 2000 costs in 1998, the reductions in the severance and facilities reserve
in 1997 and net realized capital gains or losses.
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
----------------- -----------------
(Millions) 1998 1997 1998 1997
------ ------ ------ ------
<S> <C> <C> <C> <C>
Health Risk $ 95.0 $110.7 $188.7 $236.0
Group Insurance and Other Health 84.3 95.7 165.9 176.3
------ ------ ------ ------
Total Aetna U.S. Healthcare (1) $179.3 $206.4 $354.6 $412.3
====== ====== ====== ======
Commercial HMO Medical Loss Ratio 81.2% 81.7% 81.9% 82.0%
------ ------ ------ ------
Medicare HMO Medical Loss Ratio 95.5% 92.4% 94.2% 91.3%
------ ------ ------ ------
Health Risk Medical Loss Ratio 84.9% 83.6% 85.0% 83.1%
------ ------ ------ ------
</TABLE>
(1) Net income includes a net benefit from capitalizing internal-use software of
$4.2 million for the three months ended June 30, 1998 and $8.5 million for
the six months ended June 30, 1998.
Health Risk
Earnings for the Health Risk business (which includes all health products for
which Aetna U.S. Healthcare assumes all or a majority of health care costs and
utilization risk) for the three and six months ended June 30, 1998 were affected
by several factors.
Indemnity and preferred provider organization ("PPO") results for the three and
six months ended June 30, 1998 were lower than the same periods a year ago due
to declining membership, in part reflecting a shift to managed care products, as
well as higher favorable prior year reserve runoff in 1997.
Health Risk earnings for the three and six months ended June 30, 1998 also
reflect increased operating expenses related to customer service enhancements,
which are expected to continue until targeted levels of performance have been
achieved, partially offset by higher investment income due to increased equity
partnership income and a shift in strategy to higher yielding investments. The
Health Risk SG&A ratio was 12.2% for the second quarter of 1998 and 11.9% for
the six months ended June 30, 1998 compared with 12.0% and 11.8% for these
periods a year ago.
Results for the three and six months ended June 30, 1998 were also affected by
favorable health maintenance organization ("HMO") results due to enrollment
growth and premium rate increases partially offset by higher HMO medical costs,
particularly for the Medicare HMO business.
Commercial HMO premiums per member per month ("PMPM") increased by 2% for the
three and six months ended June 30, 1998 compared with the same 1997 periods.
Medicare HMO premiums PMPM were level in the second quarter of 1998 and
increased 1% for the six months ended June 30, 1998 compared with the same 1997
periods. These increases in HMO premiums PMPM were due to premium rate increases
offset in part by the impact of geographic mix.
<PAGE> 26
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
AETNA U.S. HEALTHCARE (CONTINUED)
Commercial HMO medical costs PMPM increased by 1% for the three months ended
June 30, 1998 and by 2% for the six months ended June 30, 1998 compared with the
same 1997 periods. The higher Commercial medical costs PMPM for the three and
six months ended June 30, 1998 were primarily due to higher pharmacy, physician
and outpatient utilization.
Medicare HMO medical costs PMPM increased by 4% for the three and six months
ended June 30, 1998 compared with the same 1997 periods. The higher Medicare HMO
medical costs PMPM for the three and six months ended June 30, 1998 were
primarily due to higher pharmacy, physician and outpatient utilization.
The Commercial HMO medical loss ratio decreased for the three and six months
ended June 30, 1998 when compared to the same periods a year ago, reflecting
premium rate increases which outpaced medical cost increases, partially offset
by membership growth in regions with higher medical loss ratios. The Medicare
HMO medical loss ratio increased for the three and six months ended June 30,
1998 when compared to the same periods a year ago due to higher medical costs
resulting from increased utilization.
For the Health Risk business, reserves reflect estimates of the ultimate cost of
claims that have been incurred but not yet reported or paid. Claim reserves are
based on a number of factors including those derived from historical claim
experience. Medical claims payable are estimated periodically, and any resulting
adjustments are reflected in current period results in current and future
benefits.
Group Insurance and Other Health
Group Insurance and Other Health includes group life and disability insurance
and long-term care insurance, offered on both an insured and employer-funded
basis, and all health products offered on an employer-funded basis. Results for
the second quarter of 1998 decreased by $11 million and for the first six months
of 1998 decreased by $10 million when compared with the same periods in 1997.
These results were primarily due to a decrease in nonrisk health and group
insurance membership and, for the three months ended June 30, 1998, unfavorable
experience in the disability product line. The decreases in earnings resulting
from these factors were partially offset by higher investment income due to
increased equity partnership income and a shift in strategy to higher yielding
investments in both periods.
<PAGE> 27
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
AETNA U.S. HEALTHCARE (CONTINUED)
Membership
Aetna U.S. Healthcare's membership was as follows:
<TABLE>
<CAPTION>
June 30, 1998 June 30, 1997 (1)
------------- -----------------
(Thousands) Risk Nonrisk Total Risk Nonrisk Total
- ----------- ---- ------- ----- ---- ------- -----
<S> <C> <C> <C> <C> <C> <C>
HMO
Commercial (2) 3,905 399 4,304 3,536 578 4,114
Medicare 405 -- 405 349 20 369
Medicaid 69 -- 69 107 -- 107
----- ----- ------ ----- ----- ------
Total HMO 4,379 399 4,778 3,992 598 4,590
POS 266 2,515 2,781 328 2,432 2,760
PPO 572 2,771 3,343 737 2,902 3,639
Indemnity 253 2,301 2,554 398 2,328 2,726
----- ----- ------ ----- ----- ------
Total Health Membership 5,470 7,986 13,456 5,455 8,260 13,715
===== ===== ====== ===== ===== ======
Group Insurance: (3)
Group Life 9,507 9,903
Disability 2,737 2,566
Long-Term Care 92 96
</TABLE>
(1) Health membership as of June 30, 1997 reflects improved data as a
result of system and plan conversions. The conversions predominately
affected Indemnity and PPO membership and had an immaterial impact on
all other health products. June 30, 1997 membership reflects
adjustments which continued to occur through the latter half of 1997 as
applied to June 30, 1997 membership previously reported.
(2) Includes 1,007 thousand POS members who access primary care physicians
and referred care through an HMO network at June 30, 1998 and 867
thousand at June 30, 1997.
(3) Group Insurance membership as of June 30, 1997 reflects improved data
as a result of the conversion to a new membership reporting system.
June 30, 1997 membership reflects adjustments which continued to occur
through the latter half of 1997 as applied to June 30, 1997 membership
previously reported. Many Group Insurance members participate in more
than one type of Aetna U.S. Healthcare coverage and are counted in
each.
Total Health membership as of June 30, 1998 decreased by 259 thousand members,
or 2%, when compared to June 30, 1997. Membership increases in Commercial HMO,
Medicare HMO and point-of-service ("POS") were more than offset by declines in
Indemnity, PPO and Medicaid HMO enrollment. The decline in Indemnity enrollment
reflects, among other factors, the continued migration of Indemnity members to
managed care products. Total HMO membership as of June 30, 1998 increased by 188
thousand members, or 4%, when compared to June 30, 1997.
Total Revenue and Expense
Revenue for Aetna U.S. Healthcare, excluding revenue in the second quarter and
first six months of 1997 related to certain Medicare administrative services no
longer provided by Aetna U.S. Healthcare and excluding net realized capital
gains or losses, increased $122 million, or 4%, for the quarter ended June 30,
1998 and increased $290 million or 5%, for the six months ended June 30, 1998
compared to the same periods in 1997. These increases were primarily due to
membership growth in Commercial and Medicare HMOs partially offset by lower
Indemnity and PPO membership, as well as due to premium rate increases on
business being renewed during the first six months of 1998.
Operating expenses for Aetna U.S. Healthcare, excluding operating expenses in
the second quarter and first six months of 1997 related to certain Medicare
administrative services no longer provided by Aetna U.S. Healthcare, increased
by $50 million or 9%, for the quarter ended June 30, 1998 and increased $95
million or 8%, for the six months ended June 30, 1998 compared with the same
periods in 1997, primarily related to higher HMO membership, customer service
enhancements and costs related to Year 2000 remediation.
<PAGE> 28
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
AETNA U.S. HEALTHCARE (CONTINUED)
Acquisition of NYLCare Health Business
The acquisition of the NYLCare health business continues the Company's strategy
to invest in its health business. Included in the acquisition are NYLCare's HMO,
POS, PPO and Indemnity health businesses as well as its group life and
disability businesses. At June 30, 1998, the NYLCare health business had
approximately 2.2 million health members. Subsequent to the acquisition of this
business on July 15, 1998, Aetna U.S. Healthcare's results will be affected by,
among other things, the operating results of the NYLCare business and the
amortization of intangible assets (primarily goodwill) created as a result of
the transaction.
<PAGE> 29
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
AETNA RETIREMENT SERVICES
<TABLE>
<CAPTION>
Operating Summary
Three Months Ended June 30, Six Months Ended June 30,
--------------------------- -------------------------
(Millions) 1998 1997 % Change 1998 1997 % Change
---- ---- -------- ---- ---- --------
<S> <C> <C> <C> <C> <C> <C>
Premiums (1) $ 34.9 $ 38.0 (8.2)% $ 75.2 $ 78.4 (4.1)%
Net investment income 268.8 279.4 (3.8) 536.4 552.0 (2.8)
Fees and other income 169.9 136.5 24.5 332.6 270.9 22.8
Net realized capital gains 10.1 3.8 165.8 7.9 9.2 (14.1)
-------- -------- -------- --------- --------- --------
Total revenue 483.7 457.7 5.7 952.1 910.5 4.6
-------- -------- -------- --------- --------- --------
Current and future benefits 235.3 256.0 (8.1) 485.6 522.2 (7.0)
Operating expenses 104.0 91.7 13.4 205.7 173.1 18.8
Amortization of deferred policy
acquisition costs 36.5 25.9 40.9 70.5 47.3 49.0
-------- -------- -------- --------- --------- --------
Total benefits and expenses 375.8 373.6 .6 761.8 742.6 2.6
-------- -------- -------- --------- --------- --------
Income before income taxes 107.9 84.1 28.3 190.3 167.9 13.3
Income taxes 34.5 25.1 37.5 58.6 52.5 11.6
-------- -------- -------- --------- --------- --------
Net income (2) $ 73.4 $ 59.0 24.4 $ 131.7 $ 115.4 14.1
======== ======== ======== ========= ========= ========
Net realized capital gains,
net of tax (included above) $ 6.5 $ 2.5 160.0 $ 5.1 $ 6.0 (15.0)
======== ======== ======== ========= ========= ========
Deposits not included in premiums above:
Annuities - fixed options $ 275.6 $ 298.4 (7.6) $ 608.7 $ 578.6 5.2
Annuities - variable options 947.5 796.2 19.0 1,854.6 1,614.3 14.9
Individual Life Insurance 129.6 117.3 10.5 260.7 237.8 9.6
-------- -------- -------- --------- --------- --------
Total $1,352.7 $1,211.9 11.6 $ 2,724.0 $ 2,430.7 12.1
======== ======== ======== ========= ========= ========
Assets under management: (3)
Annuities - fixed options $11,947.1 $11,898.1 .4
Annuities - variable options (4) 23,932.5 17,527.1 36.5
--------- --------- --------
Subtotal Annuities 35,879.6 29,425.2 21.9
Other investment advisory (5) 11,312.1 4,525.0 150.0
--------- --------- --------
Financial services 47,191.7 33,950.2 39.0
Individual Life Insurance 3,267.0 2,993.3 9.1
--------- --------- --------
Total $50,458.7 $36,943.5 36.6
========= ========= ========
Individual life insurance
coverage issued $ 2,092.0 $ 2,538.0 (17.6)
========= ========= ========
Individual life insurance
coverage in force $49,607.8 $49,471.4 .3
========= ========= ========
</TABLE>
(1) Includes annuity premiums on contracts converting from the accumulation
phase to payout options with life contingencies of $13.7 million for
the three months ended June 30, 1998 and 1997, $28.0 million for the
six months ended June 30, 1998 and $30.1 million for the six months
ended June 30, 1997.
(2) Net income includes a net benefit from capitalizing internal-use
software of $2.6 million for the three months ended June 30, 1998 and
$4.3 million for the six months ended June 30, 1998.
(3) Excludes net unrealized capital gains of approximately $599.9 million
at June 30, 1998 and $318.0 million at June 30, 1997.
(4) Includes $6,603.3 million at June 30, 1998 and $6,017.6 million at June
30, 1997 of assets held and managed by unaffiliated mutual funds.
(5) The June 30, 1998 balance includes the transfer of $3,163.5 million of
assets that were previously reported in the Large Case Pensions
segment, reflecting the consolidation of certain products which
complement Aetna Retirement Services' business strategy.
Aetna Retirement Services' ("ARS") net income for the second quarter of 1998
increased $14 million when compared to the same period in 1997. Net income for
the six months ended June 30, 1998 increased $16 million when compared to the
same period in 1997. Results include Year 2000 remediation costs of $5 million
(after tax) for the second quarter of 1998 and $9 million (after tax) for the
first six months of 1998. Excluding Year 2000 costs and net realized capital
gains, results for the second quarter of 1998 increased $16 million, or 27%,
compared to the second quarter of 1997. Results for the six months ended June
30, 1998 increased $26 million, or 24%, compared to the same period in 1997. The
1998 results reflect improved earnings from both financial services products and
individual life insurance products.
<PAGE> 30
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
AETNA RETIREMENT SERVICES (CONTINUED)
Business Results
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
--------------------------- -------------------------
(Millions) 1998 1997 1998 1997
- ---------- ---- ---- ---- ----
<S> <C> <C> <C> <C>
Financial services $ 47.8 $ 39.8 $ 88.6 $ 76.5
Individual life insurance 24.2 16.7 47.2 32.9
------ ------ ------ ------
Total $ 72.0 $ 56.5 $135.8 $109.4
====== ====== ====== ======
</TABLE>
The increase in earnings for financial services products for both the three and
six months ended June 30, 1998 reflect increased fee income from increased
assets under management. Assets under management (excluding approximately $3
billion of assets under management that were previously reported in the Large
Case Pensions segment) increased by 30% primarily due to appreciation in the
stock market and additional net deposits (deposits less surrenders), as well as
the inclusion of assets under management of Financial Network Investment
Corporation ("FNIC"), which was acquired in July 1997. Changes in financial
services product mix caused earnings growth to lag assets under management
growth.
Partially offsetting the increases in fee income were increased operating
expenses, principally due to expenses of FNIC. The six months ended June 30,
1998 reflect increased expenses due to business growth and continued strategic
investment. However, operating expenses as a percentage of assets under
management declined in both periods.
Earnings for the three and six months ended June 30, 1998 from individual life
insurance products increased primarily due to favorable investment margins and
mortality experience and in the first quarter of 1998, from a benefit from the
termination of a reinsurance arrangement related to the participating life
insurance business.
Of the $11.9 billion of fixed annuity assets under management at June 30, 1998
and 1997, 26% were fully guaranteed and 74% were experience rated at June 30,
1998 and 24% were fully guaranteed and 76% were experience rated at June 30,
1997. The average annualized earned rates on investments supporting fully
guaranteed investment contracts were 7.5% and 7.8% and the average annualized
earned rates on investments supporting experience rated investment contracts
were 7.9% and 8.0% for the six months ended June 30, 1998 and 1997. The average
annualized credited rates on fully guaranteed investment contracts were 6.6% and
6.7% and the average annualized credited rates on experience rated investment
contracts were 5.8% and 5.9% for the six months ended June 30, 1998 and 1997.
The resulting annualized interest margins on fully guaranteed investment
contracts were .9% and 1.1% and on experience rated investment contracts was
2.1% for the six months ended June 30, 1998 and 1997.
<PAGE> 31
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
AETNA RETIREMENT SERVICES (CONTINUED)
Sale of Domestic Individual Life Insurance Business
The Company's agreement to sell its domestic individual life insurance business
to Lincoln includes approximately $50 billion of individual life insurance
in-force as well as access to a managing general agent and brokerage
distribution channel. The transaction is generally in the form of an indemnity
reinsurance arrangement and covers the following lines of insurance: traditional
life, universal life, participating life, sponsored life and corporate-owned
life insurance and pension life. Pension life results, which are reported in
Financial Services, are not material to ARS' results and therefore are not
included below. Revenues for these business lines were $129 million for the
second quarter of 1998 compared to $136 million for the second quarter of 1997,
and $264 million for the first six months of 1998 compared to $268 million for
the same period in 1997. Net income, excluding Year 2000 costs in 1998 and net
realized capital gains in all periods, was $24 million for the second quarter of
1998 compared to $17 million for the second quarter of 1997, and $47 million for
the first six months of 1998 compared to $33 million for the same period in
1997. Comparable results were $75 million for the year ended December 31, 1997.
See "Overview" for further discussion of the sale.
<PAGE> 32
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
AETNA INTERNATIONAL
Operating Summary
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
--------------------------- -------------------------
(Millions) 1998 1997 % Change 1998 1997 % Change
- ---------- ---- ---- -------- ---- ---- --------
<S> <C> <C> <C> <C> <C> <C>
Premiums $367.8 $359.0 2.5% $687.1 $676.4 1.6%
Net investment income 119.3 93.8 27.2 237.6 186.1 27.7
Fees and other income 26.5 32.6 (18.7) 58.4 66.7 (12.4)
Net realized capital gains (losses) 7.2 6.9 4.3 (5.1) 10.8 --
------ ------ ------ ------ ------ ------
Total revenue 520.8 492.3 5.8 978.0 940.0 4.0
------ ------ ------ ------ ------ ------
Current and future benefits 304.8 300.2 1.5 582.5 576.5 1.0
Operating expenses 121.8 114.6 6.3 236.4 215.0 10.0
Interest expense 3.1 1.5 106.7 5.8 3.2 81.3
Amortization of goodwill and other
acquired intangible assets 5.2 4.8 8.3 10.3 7.1 45.1
Amortization of deferred policy
acquisition costs 26.1 20.9 24.9 44.4 40.4 9.9
------ ------ ------ ------ ------ ------
Total benefits and expenses 461.0 442.0 4.3 879.4 842.2 4.4
------ ------ ------ ------ ------ ------
Income before income taxes 59.8 50.3 18.9 98.6 97.8 .8
Income taxes 14.8 13.9 6.5 25.6 30.4 (15.8)
------ ------ ------ ------ ------ ------
Net income (1) $ 45.0 $ 36.4 23.6 $ 73.0 $ 67.4 8.3
====== ====== ====== ====== ====== ======
Net realized capital gains (losses),
net of tax (included above) $ 5.4 $ 4.2 28.6 $ (2.4) $ 7.7 --
====== ====== ====== ====== ====== ======
</TABLE>
(1) Net income includes a net benefit from capitalizing internal-use software
of $.7 million for the three months ended June 30, 1998 and $1.0 million
for the six months ended June 30, 1998.
Aetna International's net income for the three months ended June 30, 1998
increased by $9 million compared with the same period in 1997. Net income for
the first six months of 1998 increased by $6 million compared with the same
period in 1997. Results include Year 2000 remediation costs of $1 million (after
tax) for the second quarter of 1998 and $3 million (after tax) for the first six
months of 1998. Excluding Year 2000 costs and net realized capital gains or
losses, results for the three months ended June 30, 1998 increased $9 million,
or 26%, from the corresponding prior year period. Results for the first six
months of 1998 increased $19 million, or 31%, from the corresponding prior year
period. The increase in 1998 results, as shown below, primarily reflect the
Company's operations in Brazil, which were acquired in April 1997, new pension
business in Mexico as well as continued business growth in Taiwan.
Earnings by major geographic location, excluding Year 2000 costs and net
realized capital gains or losses were as follows:
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
--------------------------- -------------------------
(Millions) 1998 1997 1998 1997
- ---------- ---- ---- ---- ----
<S> <C> <C> <C> <C>
Asia Pacific (1) $15.6 $13.7 $27.9 $25.8
Americas (2) 28.6 18.8 57.2 34.9
Other (3) (3.5) (.3) (6.9) (1.0)
===== ===== ===== =====
Total $40.7 $32.2 $78.2 $59.7
===== ===== ===== =====
</TABLE>
(1) Includes Hong Kong, Taiwan, Indonesia, Malaysia, Philippines and New
Zealand.
(2) Includes Argentina, Brazil, Canada, Mexico, Venezuela, Chile and Peru.
(3) Includes general and other miscellaneous expenses.
<PAGE> 33
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
LARGE CASE PENSIONS
<TABLE>
<CAPTION>
Operating Summary
Three Months Ended June 30, Six Months Ended June 30,
--------------------------- -------------------------
(Millions) 1998 1997 % Change 1998 1997 % Change
- ---------- ---- ---- -------- ---- ---- --------
<S> <C> <C> <C> <C> <C> <C>
Premiums $ 29.4 $ 43.8 (32.9)% $ 69.4 $ 87.3 (20.5)%
Net investment income 301.7 361.2 (16.5) 605.4 726.8 (16.7)
Fees and other income (1) 4.7 8.4 (44.0) 9.3 17.3 (46.2)
Net realized capital gains (losses) 14.1 (6.1) -- 52.0 (1.2) --
--------- --------- --------- --------- --------- ---------
Total revenue 349.9 407.3 (14.1) 736.1 830.2 (11.3)
--------- --------- --------- --------- --------- ---------
Current and future benefits 294.4 356.5 (17.4) 600.4 721.2 (16.7)
Operating expenses (1) 5.9 8.2 (28.0) 11.9 15.8 (24.7)
Reduction of loss on discontinued
products -- -- -- -- (172.5) 100.0
--------- --------- --------- --------- --------- ---------
Total benefits and expenses 300.3 364.7 (17.7) 612.3 564.5 8.5
--------- --------- --------- --------- --------- ---------
Income before income taxes 49.6 42.6 16.4 123.8 265.7 (53.4)
Income taxes 18.6 17.6 5.7 45.6 99.3 (54.1)
--------- --------- --------- --------- --------- ---------
Net income $ 31.0 $ 25.0 24.0 $ 78.2 $ 166.4 (53.0)
========= ========= ========= ========= ========= =========
Net realized capital gains (losses),
net of tax (included above) $ 9.1 $ (3.1) -- $ 33.8 $ .1 --
========= ========= ========= ========= ========= =========
Deposits not included in premiums
above $ 216.6 $ 417.2 (48.1) $ 484.0 $ 922.2 (47.5)
========= ========= ========= ========= ========= =========
Assets under management (1)(2)(3) $29,707.6 $33,849.5 (12.2)
========= ========= =========
</TABLE>
(1) Three months ended June 30, 1997 included $1.6 million of fees and
other income and $.8 million of operating expenses and six months ended
June 30, 1997 included $3.6 million of fees and other income and $1.6
million of operating expenses and at June 30, 1997, assets of $2,997.8
million which are currently reported in the ARS segment, reflect the
consolidating of the Company's investment advisory services and certain
other products which complement ARS' business strategy.
(2) Excludes net unrealized capital gains of approximately $690.6 million
at June 30, 1998 and $254.6 million at June 30, 1997.
(3) Includes assets under management of $6,974.1 million at June 30, 1998
and $7,751.3 million at June 30, 1997 related to discontinued products.
Large Case Pensions' net income for the three months ended June 30, 1998
increased $6 million compared with the same period in 1997. Results for the
second quarter of 1998 include costs of $.3 million (after tax) related to Year
2000 remediation. Excluding Year 2000 costs and net realized capital gains or
losses, results for the three months ended June 30, 1998 decreased $6 million
from the corresponding prior year period. Earnings decreased as net investment
income was reduced as capital supporting the Large Case Pensions segment was
redeployed to other businesses of the Company as obligations matured.
Net income for the six months ended June 30, 1998 decreased $88 million compared
with the first six months of 1997. During the first six months of 1997, as a
result of continued favorable developments in real estate markets, the Company
released $108 million (after tax) of the reserve related to discontinued
products. Excluding Year 2000 costs of $.4 million (after tax) for the first six
months of 1998, the 1997 reserve release and net realized capital gains or
losses, results for the six months ended June 30, 1998 decreased $13 million
from the corresponding prior year period. The decrease in earnings continues to
reflect the reduction of capital supporting this business.
Assets under management at June 30, 1998 were 12% lower than a year earlier,
primarily as a result of the continuing runoff of underlying liabilities and
consolidation into the ARS segment of the Company's investment advisory services
and certain other products which complement ARS' business strategy.
<PAGE> 34
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
LARGE CASE PENSIONS (CONTINUED)
General account assets supporting experience rated products (where the customer,
not the Company, assumes investment and other risks) may be subject to
participant or contractholder withdrawal. Experience rated contractholder and
participant withdrawals and transfers were as follows (excluding contractholder
transfers to other Company products):
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
--------------------------- -------------------------
(Millions) 1998 1997 1998 1997
- ---------- ---- ---- ---- ----
<S> <C> <C> <C> <C>
Scheduled contract maturities
and benefit payments (1) $235.9 $230.6 $473.0 $457.4
Contractholder withdrawals other
than scheduled contract maturities
and benefit payments 99.8 50.3 172.5 136.1
Participant directed withdrawals 24.8 30.9 52.6 64.8
------ ------ ------ ------
</TABLE>
(1) Includes payments made upon contract maturity and other amounts
distributed in accordance with contract schedules.
Discontinued Products
Results of operations of discontinued products, including net realized capital
gains or losses, are credited or charged to the reserve for anticipated losses.
To the extent that aggregate future losses on the products are greater than
anticipated, the Company's results of operations would be adversely affected,
and positively affected to the extent future losses are less than anticipated.
Management reviews the adequacy of the discontinued products reserve quarterly.
In the first quarter of 1997 as a result of continued favorable developments in
real estate markets, the Company released $173 million (pretax) of the reserve
related to guaranteed investment contracts ("GICs"). The current reserve
reflects management's best estimate of anticipated future losses. The discussion
below presents information for single-premium annuities ("SPAs") and GIC
products on a combined basis.
The results of discontinued products were as follows:
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
--------------------------- -------------------------
(Millions) 1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Interest margin $ (5.2) $ 5.9 $(11.6) $ 11.8
Net realized capital gains (1) 6.5 41.5 48.8 61.3
Interest earned on receivable from
continuing products 5.6 5.4 11.2 10.8
Other, net 1.9 (1.6) 1.6 .3
------ ------ ------ ------
Results of discontinued products,
after tax $ 8.8 $ 51.2 $ 50.0 $ 84.2
====== ====== ====== ======
Results of discontinued products,
pretax $ 16.8 $ 80.8 $ 83.5 $133.2
====== ====== ====== ======
Net realized capital gains from sales
of bonds, after tax (included above) $ 6.0 $ 8.1 $ 29.1 $ 11.9
====== ====== ====== ======
</TABLE>
(1) Includes net realized capital gains of $1.5 million for the three
months ended June 30, 1998, $4.1 million for the three months ended
June 30, 1997, $22.7 million for the six months ended June 30, 1998 and
$20.2 million for the six months ended June 30, 1997 related to
continued favorable developments in real estate markets. The 1997
results also include net realized capital gains of $37.3 million for
the three and six months ended June 30 resulting from the sale of
investments to meet liquidity needs.
The interest margin is the difference between earnings on invested assets and
interest credited to contractholders.
<PAGE> 35
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
LARGE CASE PENSIONS (CONTINUED)
Total assets supporting discontinued products and the reserve include a
receivable from continuing products of $526 million (after tax) at June 30,
1998. Interest income accrues on this receivable at the discount rate used to
calculate the reserve.
The activity in the reserve for anticipated future losses on discontinued
products was as follows (pretax):
<TABLE>
<CAPTION>
Six Months Ended
(Millions) June 30, 1998
---------- ----------------
<S> <C>
Reserve at December 31, 1997 $1,151.7
Results of discontinued products 83.5
--------
Reserve at June 30, 1998 $1,235.2
========
</TABLE>
Distributions on discontinued products were as follows:
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
--------------------------- -------------------------
(Millions) 1998 1997 1998 1997
---------- ---- ---- ---- ----
<S> <C> <C> <C> <C>
Scheduled contract maturities,
settlements and benefit payments $ 392.6 $ 423.8 $ 860.1 $ 866.9
Participant directed withdrawals 6.5 9.7 12.9 19.7
-------- -------- -------- --------
</TABLE>
See Note 10 of Condensed Notes to Financial Statements for additional
information.
CORPORATE
Operating Summary
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
--------------------------- -------------------------
(Millions, after tax) 1998 1997 % Change 1998 1997 % Change
- --------------------- ---- ---- -------- ---- ---- --------
<S> <C> <C> <C> <C> <C> <C>
Interest expense $34.7 $38.5 (9.9)% $69.9 $73.7 (5.2)%
Other expense, net (1) 27.3 24.5 11.4 53.6 53.3 .6
Net realized capital (gains) (2) (70.2) (33.5) 109.6 (68.5) (33.8) 102.7
</TABLE>
(1) Includes a net benefit from capitalizing internal-use software of $1.7
million for the three months ended June 30, 1998 and $3.9 million for
the six months ended June 30, 1998.
(2) After-tax net realized capital gains in 1998 include gains of $74.4
million during the three and six months ended June 30, 1998 related to
the sale of the Company's remaining investment in Travelers Property
Casualty Corporation.
The Corporate segment includes interest expense and other expenses which are not
directly related to the Company's business segments. "Other Expense" includes
corporate expenses such as staff area expenses, advertising and contributions,
which are partially offset by net investment income. Subsequent to July 15, 1998
interest expense will increase due to the issuance of debt to fund the
NYLCare health business acquisition. See "Liquidity and Capital Resources".
Included in other expense are costs related to Year 2000 remediation of $2
million (after tax) for the second quarter of 1998 and $4 million (after tax)
for the first six months of 1998.
<PAGE> 36
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
GENERAL ACCOUNT INVESTMENTS
Risk Management and Market Sensitive Instruments
Interest rate risk is managed within a tight duration band, and credit risk is
managed by maintaining high average quality ratings and diversified sector
exposure within the debt securities portfolio. The Company's use of derivatives
is generally limited to hedging purposes and has principally consisted of using
foreign exchange forward contracts, futures contracts, interest rate swap
agreements and warrants to hedge interest rate risk, equity price risk and
foreign exchange risk (collectively, market risk).
The Company regularly evaluates market risk which addresses, among other things,
levels of or changes in domestic and/or foreign interest rates (short-term or
long-term), duration, exchange rates, prepayment rates, equity markets or credit
ratings/spreads.
Management also, on a quarterly basis, reviews hypothetical net losses in the
consolidated near-term financial position, results of operations or cash flows
under certain assumed market rate changes.
Based on the Company's overall exposure to market risk, the Company believes
that these hypothetical changes in market rates and prices would not materially
affect the consolidated near-term financial position, results of operations or
cash flows of the Company as of June 30, 1998. See the Company's 1997 Annual
Report for a more complete discussion of "Risk Management and Market Sensitive
Instruments".
Debt Securities
Debt securities represented 82% of the Company's total general account invested
assets at June 30, 1998 and 80% at December 31, 1997. Debt securities were as
follows:
<TABLE>
<CAPTION>
June 30, December 31,
(Millions) 1998 1997
- ---------- ---- ----
<S> <C> <C>
Supporting discontinued products $ 6,235.6 $ 6,471.4
Supporting experience rated products 14,703.2 15,322.8
Supporting remaining products 13,011.7 12,450.8
--------- ---------
Total debt securities (1) $33,950.5 $34,245.0
========= =========
</TABLE>
(1) Total debt securities include "Below Investment Grade" securities of
$2.2 billion at June 30, 1998 and $2.0 billion at December 31, 1997 of
which 60.4% at June 30, 1998 and 61.5% at December 31, 1997 support
discontinued and experience rated products. See the Company's 1997
Annual Report for a discussion of "Below Investment Grade" securities.
Debt securities reflected net unrealized capital gains of $1.7 billion at June
30, 1998 and $1.6 billion at December 31, 1997. Of the net unrealized capital
gains at June 30, 1998, $418 million related to assets supporting discontinued
products and $727 million related to experience rated pension contractholders.
<PAGE> 37
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
GENERAL ACCOUNT INVESTMENTS (CONTINUED)
Residential Collateralized Mortgage Obligations
Included in the Company's debt securities were residential collateralized
mortgage obligations ("CMOs") as follows:
<TABLE>
<CAPTION>
June 30, December 31,
-------- ------------
(Millions) 1998 1997
- ---------- ---- ----
<S> <C> <C>
Supporting discontinued products $ 109.2 $ 104.0
Supporting experience rated products 1,925.4 2,060.8
Supporting remaining products 493.4 545.6
---------- ----------
Total residential CMOs (1) $ 2,528.0 $ 2,710.4
========== ==========
</TABLE>
(1) The amortized cost of total residential CMOs was $2,380.1 million at
June 30, 1998 and $2,549.6 million at December 31, 1997.
There are various categories of CMOs which are subject to different degrees of
risk from changes in interest rates and, for nonagency-backed CMOs, defaults.
The principal risks inherent in holding CMOs are prepayment and extension risks
related to dramatic decreases and increases in interest rates resulting in the
repayment of principal from the underlying mortgages either earlier or later
than originally anticipated. At June 30, 1998, approximately 2% and at December
31, 1997, approximately 3% of the Company's CMO holdings were subject to more
prepayment and extension risk than traditional CMOs (such as interest- or
principal-only strips).
Mortgage Loans
At June 30, 1998 and December 31, 1997, the Company's mortgage loan investments,
net of impairment reserves, were as follows:
<TABLE>
<CAPTION>
June 30, December 31,
-------- ------------
(Millions) 1998 1997
- ---------- ---- ----
<S> <C> <C>
Supporting discontinued products $ 835.8 $ 976.9
Supporting experience rated products 1,356.9 1,671.9
Supporting remaining products 1,509.6 1,559.0
-------- --------
Total mortgage loan investments $3,702.3 $4,207.8
======== ========
</TABLE>
Problem, restructured, and potential problem loans included in mortgage loans
were $331 million at June 30, 1998 and $388 million at December 31, 1997 of
which 83% at June 30, 1998 and 84% at December 31, 1997 support discontinued and
experience rated products. See the Company's 1997 Annual Report for a discussion
of problem, restructured and potential problem loans. Specific impairment
reserves on these loans were $48 million at June 30, 1998 and $51 million at
December 31, 1997. (See Note 6 of Condensed Notes to Financial Statements).
During the first six months of 1998, the Company continued to manage its
mortgage loan portfolio to reduce the balance in absolute terms and relative to
invested assets, and to reduce its overall risk. The $506 million decrease in
the mortgage loan portfolio primarily results from loan prepayments and maturing
loans.
<PAGE> 38
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
GENERAL ACCOUNT INVESTMENTS (CONTINUED)
Real Estate
The Company's real estate balances, net of write-downs and reserves, were $291
million at June 30, 1998 and $370 million at December 31, 1997.
There were no material write-downs or changes in the valuation reserves during
the three and six months ended June 30, 1998. For the three months ended June
30, 1997, net realized capital losses from real estate write-downs and changes
in the valuation reserves were $4 million and $10 million for the six months
ended June 30, 1997.
LIQUIDITY AND CAPITAL RESOURCES
Cash Flows
The liquidity needs of the Company's businesses are generally met from cash
provided by investing activities (asset maturities and sales), premiums,
deposits, income received on investments and financings. The Company's
businesses use cash primarily for claim and benefit payments, contract
withdrawals and operating expenses. In addition, the Company uses cash to invest
in core businesses, repurchase common stock and pay shareholder dividends.
During the first six months of 1998, net cash generated from investing,
financing and operating activities was used to make approximately $8 million of
investments in core businesses, repurchase approximately $151 million of common
stock and pay approximately $86 million of dividends to shareholders.
During the corresponding period of 1997, net cash generated from investing,
financing and operating activities was used to make approximately $429 million
of investments in core businesses, repurchase approximately $154 million of
common stock and pay approximately $88 million of dividends to shareholders. See
"Consolidated Statements of Cash Flows" for additional information.
Dividends
On June 26, 1998, the Company's Board of Directors declared a quarterly dividend
of $.20 per share of common stock and $1.18945 per share of 6.25% Class C Voting
Mandatorily Convertible Preferred Stock to shareholders of record at the close
of business on July 31, 1998, payable August 15, 1998.
Financings and Financing Capacity
Substantially all of the Company's short-term and long-term borrowings and
financings are conducted through Aetna Services, Inc. and are fully and
unconditionally guaranteed by Aetna Inc. (See Note 11 of Condensed Notes to
Financial Statements).
The Company has significant short-term liquidity supporting its businesses. The
Company uses short-term borrowings from time to time to address timing
differences between receipts and disbursements. The maximum amount of domestic
short-term borrowings outstanding was $721 million during the first six months
of 1998 and $858 million during the first six months of 1997.
<PAGE> 39
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
LIQUIDITY AND CAPITAL RESOURCES (CONTINUED)
Financings and Financing Capacity (Continued)
The acquisition of the NYLCare health business was completed using funds made
available from the issuance of commercial paper. The Company expects to
ultimately finance the transaction in part with medium- or long-term fixed
income securities and also with a portion of the proceeds to be received from
the sale of its domestic individual life insurance business.
Common Stock Transactions
In September 1997, the Board authorized the repurchase of up to 7.5 million
shares of common stock. As of June 30, 1998, 4,260,000 shares of common stock
had been repurchased under this authorization at a cost of $333 million, of
which 1,891,700 shares at a cost of $151 million were repurchased during the six
months ended June 30, 1998.
NEW ACCOUNTING STANDARDS
See Note 2 of Condensed Notes to Financial Statements for a discussion of
recently issued accounting standards.
YEAR 2000
Year 2000 remediation costs incurred for company-owned systems and applications
were $25 million (after tax) for the second quarter of 1998 and $41 million
(after tax) for the first six months of 1998. A large majority of these costs
are currently believed to be incremental expenses that will not recur in the
Year 2000 or thereafter. Year 2000 remediation costs were not material in 1997.
See "Year 2000" in the Company's 1997 Annual Report for more detail.
REGULATORY ENVIRONMENT
A variety of legislative and regulatory proposals have been made at both the
federal and state government levels to address various aspects of the health
care system.
Legislation to reform the federal Medicare program was passed by Congress on
July 31, 1997 and was signed into law. Certain provisions of this legislation
began to phase in, beginning on January 1, 1998, changes to the Medicare risk
HMO premium determination methodology that will generally reduce the premiums
payable to the Company as compared with the methodology previously used. The
level and extent of any reductions will vary by geographic market and other
factors. A "user fee" payable by the Company was also imposed. While the
phase-in provisions have provided the Company with an opportunity to offset some
of such premium reductions (including the user fee) by adjusting the
supplemental premiums payable by members and the benefits included in the
Company's products, competition, regulation and other factors may result in such
adjustments not fully offsetting such premium reductions.
<PAGE> 40
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
REGULATORY ENVIRONMENT (CONTINUED)
The Health Insurance Portability and Accountability Act of 1996 ("HIPAA"), was
enacted to (i) ensure portability of coverage to individuals changing jobs or
moving to individual coverage by limiting preexisting condition exclusions, (ii)
guarantee availability of coverage to employees in the small group market, and
(iii) prevent exclusion of individuals from coverage under group plans based on
health status. This legislation was effective on July 1, 1997. Other federal
legislation, effective January 1, 1998, mandated minimum hospital stays after
childbirth and parity in applying lifetime limits to mental health benefits.
Congress and many states, including states in which the Company has substantial
managed care membership, are considering legislation or regulation related to
the operation of health plans. Such legislation or regulation varies, but
includes, among other things, one or more of the following: (i) mandatory
maternity and other lengths of stay, (ii) regulation of utilization review,
(iii) mandated expanded consumer disclosures, (iv) mandatory direct access to
OB/GYNs, chiropractors and other particular specialists, (v) mandatory direct
access to specialists for patients with chronic conditions, (vi) mandatory
point-of-service benefits, (vii) mandatory or expanded coverage of experimental
procedures and drugs, (viii) third party review of denials of benefits, (ix)
liability for negligent denials of benefits, (x) assessments, surcharges or
taxes on premiums or provider payments to fund uncompensated care, graduate
medical education or government programs, (xi) extension of malpractice and
other liability for medical and other decisions from providers to health plans,
(xii) required payment for emergency services, (xiii) mandated internal and
external grievance and appeal procedures, (xiv) hearings or other limitations on
termination of physicians from networks, (xv) prohibition of so-called "gag"
clauses, and (xvi) provisions similar to those in HIPAA. Other potential
legislative and regulatory changes related to health plans that are receiving a
high level of attention at both the state and federal levels include, but are
not limited to, (i) eliminating or reducing the scope of ERISA preemption of
state laws; (ii) required payment levels for out of network care; (iii)
prohibition or limitation of arrangements designed to manage medical costs and
improve quality of care, such as capitated arrangements with providers or
provider financial incentives; (iv) limitations on utilization management
methods; (v) regulation of the composition of the Company's provider networks,
such as any willing provider or pharmacy laws; and (vi) changes to licensure or
certification requirements.
At this time, the Company is unable to predict the impact of the foregoing
federal or state legislation or regulation, or of any future legislation or
regulatory changes that may be enacted, although it can be anticipated that
certain of these measures, if enacted, would adversely affect the Company.
Moreover, there can be no assurance that the Company can recoup, through higher
premiums or other measures, the increased costs of mandated benefits or the
other increased costs caused by such legislation or regulation.
For other important information regarding regulation of the Company's health and
other businesses, see the Company's 1997 Annual Report on Form 10-K.
<PAGE> 41
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
FORWARD-LOOKING INFORMATION/RISK FACTORS
The Private Securities Litigation Reform Act of 1995 (the "1995 Act") provides a
"safe harbor" for forward-looking statements, so long as those statements are
identified as forward-looking and are accompanied by meaningful cautionary
statements identifying important factors that could cause actual results to
differ materially from those discussed in the statement. The Company desires to
take advantage of these safe harbor provisions.
See "Regulatory Environment" above and "Forward Looking Information/Risk
Factors", "Regulatory Environment" and the "Outlook" section of each business
segment in the Company's 1997 Annual Report for information regarding important
factors that may materially affect the Company.
Item 3. Quantitative and Qualitative Disclosures About Market
Risk.
See information contained in "Management's Discussion and Analysis of Financial
Condition and Results of Operations - General Account Investments".
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.
Purported Class Action Complaints were filed in the United States District Court
for the Eastern District of Pennsylvania on November 5, 1997 by Eileen
Herskowitz and Michael Wolin, and on December 4, 1997 by Pamela Goodman and
Michael J. Oring. Other purported Class Action Complaints were filed in the
United States District Court for the District of Connecticut on November 25,
1997 by Evelyn Silvert, on November 26, 1997 by the Rainbow Fund, Inc., and on
December 24, 1997 by Terry B. Cohen. The Connecticut actions have been
transferred to the United States District Court for the Eastern District of
Pennsylvania for consolidated pretrial proceedings with the cases pending there.
The plaintiffs have filed a Consolidated and Amended Complaint (the "Complaint")
seeking, among other remedies, unspecified damages resulting from defendants'
alleged violations of federal securities laws. The Complaint alleges that the
Company and three of its current or former officers or directors, Ronald E.
Compton, Richard L. Huber, and Leonard Abramson, are liable for certain
misrepresentations and omissions regarding, among other matters, the integration
of the merger with U.S. Healthcare and the Company's medical claim reserves. The
Company and the individual defendants filed a motion to dismiss the Complaint on
July 31, 1998. The litigation is still in the preliminary stages, and the
Company is defending the actions vigorously.
The Company is also involved in numerous other lawsuits arising, for the most
part, in the ordinary course of its business operations, including litigation in
its health business concerning benefit plan coverage and other decisions made by
the Company, and alleged medical malpractice by participating providers. While
the ultimate outcome of these other lawsuits cannot be determined at this time,
after consideration of the defenses available to the Company and any related
reserves established, they are not expected to result in liability for amounts
material to the financial condition of the Company, although they may adversely
affect results of operations in future periods.
<PAGE> 42
PART II. OTHER INFORMATION (Continued)
Item 4. Submission of Matters to a Vote of Security Holders.
At the Annual Meeting of Shareholders, held April 24, 1998, three matters were
submitted to a vote: the election of directors for the coming year, the
ratification of the appointment of KPMG Peat Marwick LLP as independent public
accountants for the current calendar year and a proposal to rotate the location
of the Annual Meeting. Following are the results of the tabulation of the voting
on these matters:
Election of Directors:
<TABLE>
<CAPTION>
Votes Votes
For Withheld
--- --------
<S> <C> <C>
Leonard Abramson 133,513,404 3,150,494
Betzy Z. Cohen 134,705,993 1,957,905
William H. Donaldson 134,732,620 1,931,278
Barbara Hackman Franklin 134,675,903 1,987,995
Jerome S. Goodman 134,706,786 1,957,112
Earl G. Graves 134,710,416 1,953,482
Gerald Greenwald 134,814,511 1,849,387
Ellen M. Hancock 134,811,070 1,852,828
Richard L. Huber 134,775,280 1,888,618
Michael H. Jordan 131,555,344 5,108,554
Jack D. Kuehler 134,787,413 1,876,485
Frank R. O'Keefe, Jr. 134,751,371 1,912,527
Judith Rodin 134,766,517 1,897,381
</TABLE>
Other matters voted upon:
<TABLE>
<CAPTION>
Vote Vote Broker
For Against Abstain Non-Votes
--- ------- ------- ---------
<S> <C> <C> <C> <C>
Ratification of Independent
Public Accountants 136,029,260 392,570 242,068 - 0 -
Proposal to Rotate Location
of Annual Meeting 5,742,504 112,839,493 3,504,771 14,577,130
</TABLE>
Item 5. Other Information.
(a) Ratios of Earnings to Fixed Charges and Earnings to Combined Fixed Charges
and Preferred Stock Dividends
The following table sets forth the Company's and Aetna Services, Inc.'s ratio of
earnings to fixed charges and ratio of earnings to combined fixed charges and
preferred stock dividends for the periods indicated.
<TABLE>
<CAPTION>
Six Months Ended Year Ended December 31,
---------------- -----------------------
Aetna Inc. June 30, 1998 1997 1996 1995 1994 1993
- ---------- ------------- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C>
Ratio of Earnings to Fixed Charges 5.31 5.74 2.45 4.97 4.74 (a)
Ratio of Earnings to Combined Fixed
Charges and Preferred Stock Dividends 4.16 4.46 2.10 4.97 4.74 (a)
</TABLE>
(a) The Company reported a pretax loss from continuing operations in 1993
which was inadequate to cover fixed charges by $1.0 billion.
<TABLE>
<CAPTION>
Six Months Ended Year Ended December 31,
---------------- -----------------------
Aetna Services, Inc. June 30, 1998 1997 1996
- -------------------- ------------- ---- ----
<S> <C> <C> <C>
Ratio of Earnings to Fixed Charges 4.89 5.78 2.44
Ratio of Earnings to Combined Fixed
Charges and Preferred Stock Dividends 4.89 5.78 2.44
</TABLE>
<PAGE> 43
PART II. OTHER INFORMATION (Continued)
Item 5. Other Information. (Continued)
(a) Ratios (Continued)
For purposes of computing both the ratio of earnings to fixed charges and the
ratio of earnings to combined fixed charges and preferred stock dividends,
"earnings" represent consolidated earnings from continuing operations before
income taxes, cumulative effect adjustments and extraordinary items plus fixed
charges and minority interest. "Fixed charges" consist of interest (and the
portion of rental expense deemed representative of the interest factor) and
includes the dividends paid to preferred shareholders of a subsidiary. (See Note
15 of Notes to Financial Statements in the Company's 1997 Annual Report.) During
1995, 1994, and 1993 there was no preferred stock outstanding, and as a result,
the ratios of earnings to combined fixed charges and preferred stock dividends
were the same as the ratios of earnings to fixed charges.
(b) Ratings
The ratings of certain of Aetna Inc.'s subsidiaries follow:
<TABLE>
<CAPTION>
Rating Agencies
---------------
Moody's
Duff & Investors Standard
A.M. Best Phelps Service & Poor's
--------- ------ ------- --------
<S> <C> <C> <C> <C>
Aetna Services, Inc.(senior debt)**
May 6, 1998 (1) * A A2 A
August 4, 1998 (2) * A A3 A
Aetna Services, Inc.(commercial paper)**
May 6, 1998 (1) * D-1 P-1 A-1
August 4, 1998 (2) * D-1 P-2 A-1
Aetna Life Insurance Company(claims paying)
May 6, 1998 (1) A AA- A1 A+
August 4, 1998 (2) A AA- A1 A+
Aetna Life Insurance and Annuity Company(claims paying)
May 6, 1998 (1) A+ AA+ Aa3 AA-
August 4, 1998 (2) A+ AA+ Aa3 AA-
</TABLE>
* Nonrated by the agency.
** Fully and unconditionally guaranteed by Aetna Inc.
(1) As of May 6, 1998 A.M. Best ratings were on review and Standard &
Poor's, Moody's Investors Service and Duff & Phelps ratings were on
credit watch or review for possible downgrade.
(2) As of August 4, 1998 A.M. Best ratings are on review and Duff & Phelps
ratings for ALIAC are on credit watch for possible downgrade.
(c) Shareholder Proposals
In accordance with the Company's By-Laws, a shareholder who wishes to present an
issue for consideration by other shareholders at the Company's 1999 Annual
Meeting must give written notice to the Company not later than February 1, 1999.
The notice must set forth: (a) a brief description of the issue to be considered
at the meeting and the reasons; (b) the shareholder's name and address; (c) the
class and number of shares owned by the shareholder; and (d) any material
interest of the shareholder in the issue.
To be included in the 1999 Proxy Statement and on the Proxy Card, shareholder
proposals must be received by the Company not later than November 20, 1998.
<PAGE> 44
PART II. OTHER INFORMATION (Continued)
Item 6. Exhibits and Reports on Form 8-K. (Continued)
(a) Exhibits
(10) Material Contracts.
Assignment dated June 29, 1998 of Credit Agreement dated as of
June 28, 1996.
(12) Statement Re: Computation of Ratios.
Statement re: computation of ratio of earnings to fixed
charges and ratio of earnings to combined fixed charges and
preferred stock dividends for the six months ended June 30,
1998 and for the years ended December 31, 1997, 1996, 1995,
1994 and 1993 for the Company and for the six months ended
June 30, 1998 and for the years ended December 31, 1997 and
1996 for Aetna Services, Inc.
(15) Letter Re: Unaudited Interim Financial Information.
Letter from KPMG Peat Marwick LLP acknowledging awareness of
the use of a report on unaudited interim financial
information, dated August 4, 1998.
(27) Financial Data Schedule.
(b) Reports on Form 8-K
The Company filed a report on Form 8-K on May 21, 1998 related to the sale of
its domestic individual life insurance business.
<PAGE> 45
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Aetna Inc.
-------------------------------
(Registrant)
Date August 5, 1998 By /s/ Alan M. Bennett
--------------------------------
Alan M. Bennett
Vice President
and Corporate Controller
(Chief Accounting Officer)
<PAGE> 46
AETNA INC.
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
------ -----------
10 Material Contracts
Assignment dated June 29, 1998 of Credit Agreement dated as of
June 28, 1996.
12 Statement Re Computation of Ratios
Statement re: computation of ratio of earnings to fixed
charges and ratio of earnings to combined fixed charges and
preferred stock dividends for the six months ended June 30,
1998 and for the years ended December 31, 1997, 1996, 1995,
1994 and 1993 for the Company and for the six months ended
June 30, 1998 and for the years ended December 31, 1997 and
1996 for Aetna Services, Inc.
15 Letters Re Unaudited Interim Financial Information
Letter from KPMG Peat Marwick LLP acknowledging
awareness of the use of a report on unaudited interim
financial information, dated August 4, 1998.
27 Financial Data Schedule
<PAGE> 1
EXHIBIT 10
ASSIGNMENT AND ASSUMPTION AGREEMENT
AGREEMENT dated as of June 29, 1998 among MORGAN GUARANTY TRUST COMPANY
OF NEW YORK (the "ASSIGNOR") and REVOLVING COMMITMENT VEHICLE CORPORATION (the
"ASSIGNEE").
WHEREAS, this Assignment and Assumption Agreement (the "AGREEMENT")
relates to the Credit Agreement dated as of June 28, 1996 among Aetna Services,
Inc. (formerly Aetna Life and Casualty Company) (the "BORROWER"), Aetna Inc.,
the Assignor and the other Banks party thereto and MORGAN GUARANTY TRUST COMPANY
OF NEW YORK, as Agent (the "AGENT") (as amended from time to time, the "CREDIT
AGREEMENT");
WHEREAS, as provided under the Credit Agreement, the Assignor has a
Commitment to make Loans to the Borrower in an aggregate principal amount at any
time outstanding not to exceed $114,000,000;
WHEREAS, Committed Loans made to the Borrower by the Assignor under the
Credit Agreement in the aggregate principal amount of $0 are outstanding at the
date hereof; and
WHEREAS, the Assignor proposes to assign to the Assignee all of the
rights of the Assignor under the Credit Agreement in respect of a portion of its
Commitment thereunder in an amount equal to $114,000,000 (the "ASSIGNED
AMOUNT"), together with a corresponding portion of each of its outstanding
Committed Loans, and the Assignee proposes to accept such assignment and assume
the corresponding obligations of the Assignor under the Credit Agreement;
NOW, THEREFORE, in consideration of the foregoing and the mutual
agreements contained herein, the parties hereto agree as follows:
SECTION 1. Definitions. All capitalized terms not otherwise defined
herein have the respective meanings set forth in the Credit Agreement.
SECTION 2. Assignment. The Assignor hereby assigns and sells to the
Assignee all of the rights of the Assignor under the Credit Agreement to the
extent of the Assigned Amount and a corresponding portion of each of its
outstanding Committed Loans, and the Assignee hereby accepts such assignment
from the Assignor and assumes all of the obligations of the Assignor under the
Credit Agreement to the extent of the Assigned Amount. Upon the execution and
delivery hereof by the Assignor, the Assignee, the Borrower and the Agent and
the payment of the amounts specified in Section 3 required to be paid on the
date hereof (i) the Assignee shall, as of the date hereof, succeed to the rights
and be obligated to perform the obligations of a Bank under the Credit Agreement
<PAGE> 2
with a Commitment in an amount equal to the Assigned Amount and acquire the
rights of the Assignor with respect to a corresponding portion of each of its
outstanding Committed loans and (ii) the Commitment of the Assignor shall, as of
the date hereof, be reduced by the Assigned Amount, and the Assignor shall be
released from its obligations under the Credit Agreement to the extent such
obligations have been assumed by the Assignee. The assignment provided for
herein shall be without recourse to the Assignor.
SECTION 3. Payments. As consideration for the assignment and sale
contemplated in Section 2 hereof, the Assignee shall pay to the Assignor on the
date hereof in Federal funds the amount heretofore agreed between them. Facility
fees and commitment fees accrued before the date hereof are for the account of
the Assignor and such fees accruing on and after the date hereof with respect to
the Assigned Amount are for the account of the Assignee. Each of the Assignor
and the Assignee agrees that if it receives any amount under the Credit
Agreement which is for the account of the other party hereto, it shall receive
the same for the account of such other party to the extent of such other party's
interest therein and promptly pay the same to such other party.
SECTION 4. Consent of the Borrower and the Agent. This Agreement is
conditioned upon the consent of the Borrower and the Agent pursuant to Section
10.05(c) of the Credit Agreement. The execution of this Agreement by the
Borrower and the Agent is evidence of this consent, and shall evidence as well
the consent of the Borrower and the Agent to any future assignments of all or
any portion of the Assigned Amount and the rights and obligations of the
Assignee in respect thereof to the Assignor (for the avoidance of doubt, the
Assignor referred to means Morgan Guaranty Trust Company of New York as defined
above), including, without limitation, any such assignment to the Assignor as
collateral agent on behalf of creditors of the Assignee. The Assignee shall
promptly notify the Borrower and the Agent of any such future assignment.
SECTION 5. Note. Pursuant to Section 10.05(c) of the Credit Agreement,
the Borrower has agreed to execute and deliver a Note payable to the order of
the Assignee to evidence the assignment and assumption provided for herein.
SECTION 6. No Reliance on Assignor. The Assignor makes no representation
or warranty in connection with, and shall have no responsibility with respect
to, the solvency, financial condition or statements of the Borrower, or the
validity and enforceability of the Borrower's obligations under the Credit
Agreement or any Note. The Assignee acknowledges that it has, independently and
without reliance on the Assignor, and based on such documents and information as
it has deemed appropriate, made its own credit analysis and decision to enter
into this Agreement and will continue to be responsible for making its own
independent appraisal of the business, affairs and financial condition of the
Borrower.
SECTION 7. Governing Law. This Agreement shall be governed by and
construed in accordance with the laws of the State of New York.
2
<PAGE> 3
SECTION 8. Counterparts. This Agreement may be signed in any number of
counterparts, each of which shall be an original, with the same effect as if the
signatures thereto and hereto were upon the same instrument.
IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be
executed and delivered by their duly authorized officers as of the date first
above written.
MORGAN GUARANTY TRUST
COMPANY OF NEW YORK, as Assignor
By: /s/ Maria H. Dell'Aquila
--------------------------------
Title: Vice President
REVOLVING COMMITMENT VEHICLE
CORPORATION, as Assignee
By: Morgan Guaranty Trust Company of
New York, as Attorney-in-fact for
Revolving Commitment Vehicle
Corporation
By: /s/ James Dwyer
--------------------------------
Title: Vice President
AETNA SERVICES, INC. (formerly Aetna
Life and Casualty Company)
By: /s/ Alfred P. Quirk, Jr.
--------------------------------
Title: Vice President
MORGAN GUARANTY TRUST
COMPANY OF NEW YORK, as Agent
By: /s/ Glenda L. Winter-Irving
--------------------------------
Title: Vice President
3
<PAGE> 1
EXHIBIT 12
AETNA INC.
COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES AND RATIO OF EARNINGS TO
COMBINED FIXED CHARGES AND PREFERRED STOCK DIVIDENDS
<TABLE>
<CAPTION>
Six Months Ended Years Ended
June 30, December 31,
---------------- ---------------------------------------------------------------
(Millions) 1998 1997 1996 1995 1994 1993
------ ------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C> <C>
Pretax income (loss) from
continuing operations $ 712.0 $ 1,511.2 $ 338.7 $ 726.2 $ 627.5 $(1,014.7)
Add back fixed charges 165.4 321.9 245.1 187.0 170.8 154.7
Minority interest .9 14.7 16.4 16.1 11.4 7.0
--------- --------- --------- --------- --------- ---------
Income (loss) as adjusted $ 878.3 $ 1,847.8 $ 600.2 $ 929.3 $ 809.7 $ (853.0)
========= ========= ========= ========= ========= =========
Fixed charges:
Interest on indebtedness (1) $ 113.4 $ 235.8 $ 168.3 $ 115.9 $ 98.6 $ 77.4
Portion of rents representative
of interest factor 52.0 86.1 76.8 71.1 72.2 77.3
--------- --------- --------- --------- --------- ---------
Total fixed charges $ 165.4 $ 321.9 $ 245.1 $ 187.0 $ 170.8 $ 154.7
========= ========= ========= ========= ========= =========
Preferred stock dividend
requirements 45.5 92.9 41.1 -- -- --
--------- --------- --------- --------- --------- ---------
Total combined fixed charges
and preferred stock dividend
requirements $ 211.0 $ 414.3 $ 286.2 $ 187.0 $ 170.8 $ 154.7
========= ========= ========= ========= ========= =========
Ratio of earnings to fixed
charges 5.31 5.74 2.45 4.97 4.74 (5.51)
========= ========= ========= ========= ========= =========
Ratio of earnings to combined
fixed charges and preferred
stock dividends 4.16 4.46 2.10 4.97 4.74 (5.51)
========= ========= ========= ========= ========= =========
</TABLE>
(1) For the six months ended June 30, 1998 and years ended December 31,
1997, 1996, 1995 and 1994, interest on indebtedness includes the
dividends paid to preferred shareholders of a subsidiary. (See Note 14
of Notes to Financial Statements in the Company's 1997 Annual Report.)
<PAGE> 2
EXHIBIT 12 (Continued)
AETNA SERVICES, INC. (1)
COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES AND RATIO OF EARNINGS TO
COMBINED FIXED CHARGES AND PREFERRED STOCK DIVIDENDS
<TABLE>
<CAPTION>
Six Months Ended Years Ended
June 30, December 31,
-------- ------------
(Millions) 1998 1997 1996
- ---------- ---- ---- ----
<S> <C> <C> <C>
Pretax income from continuing
operations $ 635.1 $ 1,505.2 $ 335.0
Add back fixed charges 163.3 318.1 243.8
Minority interest .4 15.7 16.4
--------- --------- ---------
Income as adjusted $ 798.8 $ 1,839.9 $ 595.2
========= ========= =========
Fixed charges:
Interest on indebtedness (2) $ 113.4 $ 234.0 $ 168.3
Portion of rents representative
of interest factor 49.9 84.1 75.5
--------- --------- ---------
Total fixed charges $ 163.3 $ 318.1 $ 243.8
========= ========= =========
Preferred stock dividend
requirements -- -- --
--------- --------- ---------
Total combined fixed charges
and preferred stock dividend
requirements $ 163.3 $ 318.1 $ 243.8
========= ========= =========
Ratio of earnings to fixed
charges 4.89 5.78 2.44
========= ========= =========
Ratio of earnings to combined
fixed charges and preferred
stock dividends 4.89 5.78 2.44
========= ========= =========
</TABLE>
(1) Aetna Inc. has fully and unconditionally guaranteed the payment of all
principal, premium, if any, and interest on all outstanding debt
securities of Aetna Services, Inc. (See Note 13 of Notes to Financial
Statements in the Company's 1997 Annual Report.)
(2) Includes the dividends paid to preferred shareholders of a
subsidiary.(See Note 14 of Notes to Financial Statements in the
Company's 1997 Annual Report.)
<PAGE> 1
EXHIBIT 15
Letter Re: Unaudited Interim Financial Information
Aetna Inc.
Hartford, Connecticut
Ladies and Gentlemen:
Re: Registration Statements No. 333-07169, 333-08427,
333-08429, 333-08431, 333-52321, 333-52321-01, 333-52321-02, 333-52321-03,
333-52321-04, and 333-52321-05.
With respect to the subject registration statements, we acknowledge our
awareness of the use therein of our report dated August 4, 1998 related to our
review of interim financial information.
Pursuant to Rule 436(c) under the Securities Act of 1933, such report is not
considered a part of a registration statement prepared or certified by an
accountant or a report prepared or certified by an accountant within the meaning
of Sections 7 and 11 of the Act.
/s/ KPMG Peat Marwick LLP
Hartford, Connecticut
August 4, 1998
<TABLE> <S> <C>
<ARTICLE> 7
<LEGEND>
This schedule contains summary financial information extracted from the
financial statements contained in the Form 10-Q for the six months ended June
30, 1998 for Aetna Inc. and is qualified in its entirety by reference to such
statements.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> JUN-30-1998
<DEBT-HELD-FOR-SALE> 33,951
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 892
<MORTGAGE> 3,702
<REAL-ESTATE> 291
<TOTAL-INVEST> 41,403
<CASH> 2,031
<RECOVER-REINSURE> 0
<DEFERRED-ACQUISITION> 2,451
<TOTAL-ASSETS> 101,987
<POLICY-LOSSES> 18,282
<UNEARNED-PREMIUMS> 182
<POLICY-OTHER> 3,354
<POLICY-HOLDER-FUNDS> 17,961
<NOTES-PAYABLE> 2,205
862
0
<COMMON> 3,523
<OTHER-SE> 6,975
<TOTAL-LIABILITY-AND-EQUITY> 101,987
6,518
<INVESTMENT-INCOME> 1,636
<INVESTMENT-GAINS> 204
<OTHER-INCOME> 1,104
<BENEFITS> 6,541
<UNDERWRITING-AMORTIZATION> 115
<UNDERWRITING-OTHER> 0
<INCOME-PRETAX> 712
<INCOME-TAX> 279
<INCOME-CONTINUING> 433
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 433
<EPS-PRIMARY> 2.79<F1>
<EPS-DILUTED> 2.75<F2>
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
<FN>
<F1>The EPS-Primary tag represents basic EPS under SFAS 128.
<F2>The EPS-Diluted tag represents diluted EPS under SFAS 128.
</FN>
</TABLE>
